NZ$ worst performing currency as equity markets and risk appetite fall

By Mike Burrowes and Kymberly Martin

NZD

The NZD was the worst performing currency on Friday. NZD/USD initially jumped above 0.8280 during Friday evening before tumbling lower in the early hours of Saturday morning to finish the week at 0.8160.

The risk-sensitive NZD succumbed to the fall in US and European equity markets on Friday night (see below). Our risk appetite index (scaled 0-100%) fell from 33% to 29% over the week, its lowest level since early 2009.
NZD/AUD dropped from 0.7920 to 0.7860 currently.

The move lower appears to have been driven by macro accounts trimming their long positions. Indeed, the implied “fair value” range from our NZD/AUD model has remained unchanged at 0.7800 to 0.8000 over the week. The NZ-AU 3-year interest rate differential has moved from -77bps to -73bps since the beginning of the week, suggesting some upside to the cross if global sentiment stabilises.

The rising EUR on Friday evening saw NZD/EUR fall back from 0.5740 to 0.5680 currently. NZD/GBP spent the evening oscillating around 0.4980 as they were the only currencies to underperform against the USD. While risk sentiment is weighing on the NZD currently, should global risk sentiment stabilise, we would expect NZ’s relative interest rate and growth differential with the Eurozone and UK to help reverse the recent losses.

Locally, the week ahead does warrant some attention when we’re not staring at the offshore news wires. Tomorrow’s RBNZ survey of inflation expectations will be important given the previous outturn was at the top of the central bank’s target inflation band. On the activity front, we expect Thursday’s Q2 retail trade report to show a further expansion in volumes of 0.6%.

For Wednesday’s merchandise trade figures we anticipate ongoing reasonable growth in exports and imports, y/y, with a seasonally-impacted deficit of $236m for the month of July.

Majors

The USD fell against nearly all the major currencies on Friday. Currency markets appeared to respond to positive headlines out of Europe and rumours of an emergency Federal Reserve meeting, rather than tracking the negative risk sentiment. The only currencies to fall against the USD were the NZD and GBP.

Risk appetite was again on the backfoot on Friday, with the S&P500 index and Euro Stoxx 50 index down 1.5% and 2.2% respectively. The renewed concerns over global growth saw the MSCI world equity index fall 4.7% over the week. Risk aversion remains extremely elevated with the VIX index (a proxy for risk aversion) closing the week at 43.

Despite the risk-off mood, EUR/USD posted strong gains on Friday. The currency was boosted Friday evening after the EU’s Rehn suggests possible draft legislation for joint eurobonds. The issuance of eurobonds could help to provide cheaper funding and impose tighter fiscal rules on the ‘peripheral’ European economies. Sentiment was bolstered further by news the Spanish government approved additional spending cuts to help bring its deficit under control. These headlines helped EUR/USD surge from 1.4320 to a high around 1.4450.

The USD struggled against most of the other major currencies as rumours circulated about an emergency Federal Reserve meeting. The losses were partially reversed early Saturday morning as the rumour proved false. AUD/USD charged from 1.0380 to a high at 1.0480, ending the week at 1.0400.  

While GBP/USD struggled on Friday evening, it was the best performing currency over the past week. With concerns mounting about the Eurozone and US economies, the UK economy looks in relatively better shape. Indeed, the UK’s public finances data released on Friday revealed a surplus in July of £2bn (£0.2bn deficit expected). GBP/USD gained just under 2 cents over the week to end around 1.6460.   

The USD plunged to a record low against the JPY on Friday after a Wall Street Journal report cited Japan's vice Finance Minister, Nakao, as saying authorities do not plan to intervene in the market often. This was sufficient to push USD/JPY through the previous record-low of 76.25 down to 75.90. The USD partially recovered early Saturday morning, pushing USD/JPY back to 76.50 currently.

The market will be looking to the meeting of central bank governors at Jackson Hole on Friday. In particular, the market will focus on Fed Chairman Bernanke’s speech for any hints on further quantitative easing. ECB President Trichet speech shortly after is also likely to garner attention. The Bank of England’s Weale, RBA governor Stevens and RBA deputy governor Battellino are due to speak during the week.

Data wise, on Tuesday we have Eurozone PMI manufacturing and the US Richmond Manufacturing index. The other major data highlights come on Friday, with UK and US Q2 GDP.

Fixed Interest Markets

NZ yields closed down across the board on Friday. Overnight, US and German long yields hovered above recent lows as risk aversion remained high.

Swap yields closed down around 9 to 10bps on Friday, following on from declines seen in off-shore yields. 2-year yields closed at 3.27%, above recent lows, but near the bottom of their trading range since April. 10-year yields closed at 4.79%, taking the 2s-10s spread to 152bps.

Bond yields fell 6 to 8bps along the curve. The yield on 21s fell 6bps to 4.42%, a new low since March 2009. Australian 10-year bond yields, however, have fallen even more sharply over the week taking them below NZ yields, to 4.23%. The AU-NZ 10-year bond spread has fallen 6bps to -20bps in the past week, making NZ yields attractive on a relative basis.

Market expectations for rate moves in the coming year, from the RBA and RBNZ, have fallen to -150bps and 40bps respectively. We believe both are too pessimistic and will ultimately be revised higher, as the current global market volatility eases.

A subdued atmosphere continued overnight on Friday, with our risk appetite index (scale 0-100%) inching down to 29%. US 10-year yields traded from 2.05% to 2.06%, around December 2008 lows. Intra-week they had bounced off lows of 1.97%, their lowest level in at least 50-years.

German 10-year yields showed similar dynamics, trading from 2.08% to 2.10%, just off their all-time lows of 2.03% intra-week. German Chancellor Merkel rejected calls for eurobonds to be issued to solve the regions debt problems, saying “At this time…eurobonds are precisely the wrong answer”. She also emphasised that policy would not be driven by market demands.

The week ahead holds some important NZ indicators. Of key importance for interest rate markets is tomorrow’s RBNZ Q3 inflation expectations data. While the reading may tick down from Q2’s 3.0% reading (a 20 year high), we expect it to remain uncomfortably elevated.This will keep domestic inflation risks in the RBNZ’s view, even as global uncertainties prevail.

This week will remain a battle between global events pressuring NZ yields lower, while domestic data, such as Wednesday’s trade balance and Thursday’s retail sales, along with Tuesday’s inflation data will suggest higher domestic yields are warranted.

See our interactive swap rates charts here and bond rate charts here.

Kymberly Martin and Mike Burrowes are part of the BNZ research team. 

All its research is available here.