Twisting Bernanke style leaves markets unimpressed, NZ$ falls as worries increase for global growth

Twisting Bernanke style leaves markets unimpressed, NZ$ falls as worries increase for global growth

By Mike Burrrowes and Kymberly Martin

NZD

The NZD was the weakest performer over the past 24-hours relative to the broadly stronger USD. It has declined 2.90% to trade around 0.8000 currently.

Most of the losses occurred after the US FOMC announcement this morning (see Fixed Interest Markets).The announcement highlighted downside risks to global growth and also resulted in a surge higher in short-term US yields. This helped to boost demand for the USD at the expense of more “risky” and “growth sensitive” currencies such as the NZD. The NZD, that had been drifting lower overnight to 0.8150, fell sharply on the announcement, to trade around 0.8000 currently.

The NZD also drifted lower relative to the AUD, currently trading around 0.7960. The NZD lost ground relative to both of its European peers to trade at 0.5890 relative to the EUR, and 0.5160 relative to the GBP.
Global risk sentiment will continue to be a key driver of the NZD today.

Today’s NZ Q2 GDP release will also be important. We expect a 0.2% outcome which would be a disappointment relative to market expectations of 0.5%. However, we do not believe a weak outcome threatens our view that a rebound in growth is occurring in H2. The NZD/USD, however, could retest the 0.7970 level that it bounced off during the spike in risk aversion in early August.

Majors

The USD outperformed all majors over the past 24-hours. The JPY held up the best, with “growth sensitive” currencies NZD, AUD and CAD amongst the worst.

Our risk appetite indicator has declined slightly from 30% to 29%. The Euro Stoxx 50 closed down 2% ahead of the FOMC meeting. The S&P500 that had been drifting lower all night fell further to be down 2.9% after the FOMC announcement, led lower by cyclically sensitive sectors.  The CRB global commodity index declined 1%.

The USD had traded from overnight highs above 77.30, down to 76.80 in the early hours of this morning, ahead of the FOMC meeting. On the announcement the USD spiked higher to trade around 77.60 currently. The Fed’s statement met market expectations for it to extend the duration of its Treasury holdings. However, its economic assessment was clearly downbeat, with downside risks.

The immediate reaction in currency markets was to buy the USD. It likely benefited partly from its perceived “safe haven” appeal, but also from the surge in short-term US yields that resulted from the announcement. The 3-year interest rate differential is an important component of our USD fair-value model. On the announcement, the US 3-year swap rate surged from 58bps to 66bps.

As all attention was focused on the USD, the EUR/USD purely moved as its mirror image. It had crept higher to 1.3800 early this morning, before plunging on the FOMC announcement to 1.3570.

The GBP/USD came under pressure early in the evening after the release of the Bank of England minutes for September. It showed that the committee voted 9-0 to keep rates at 0.50%, with one member voting for more accommodative policy. The committee stated that the expansion of the £200b bond purchase program is “increasingly probable”. The GBP/USD gapped lower from 1.5700 to 1.5600 on the release of the minutes, falling further to 1.5550 after the FOMC announcement.

The “growth sensitive” currencies, CAD, AUD and NZD that had been drifting lower overnight, fell sharply on the FOMC announcement. The AUD/USD fell from around 1.0230 to below 1.0100. This is the lowest level it has traded since March.

In the day head we have RBA’s Lowe speaking at the Australian Economic Forum. Tonight, the Eurozone PMI are released, along with US and Eurozone consumer confidence and US house prices.

Fixed Interest Markets

It was a quiet day in NZ interest rate markets yesterday as the market awaited the FOMC meeting decision early this morning. At the meeting, the Fed announced a version of Operation Twist, to extend the maturity of its Treasury holdings.

NZ swap yields edged higher by 1-2bps along the curve yesterday. The 2-year yield currently sits at 3.22% and the 10-year at 4.50%.

There was also not much action in bond markets. The yield on 13s rose 4bps to 2.99%, the yield on 21s was relatively stable at 4.56%. The DMO announced its tender for today of 200m 15s, 75m 17s and 50m 23s. Given weak demand at the long end, in recent auctions, it will be interesting to see the distribution of demand today. However, with swap bond spreads (EFP) having now narrowed to less than 10bps, bonds may appear relatively attractive, especially as a defensive holding.

Overnight, US 10-year yields drifted a little lower ahead of the FOMC meeting decision early this morning. The FOMC statement highlighted: the elevated unemployment rate; housing sector depression, that inflation had moderated since earlier in the year; that some pickup in the pace of recovery is expected in coming quarters, but that the unemployment rate will decline only gradually; significant downside risk to the economic outlook, including strains in global financial markets.

Given this assessment, it decided to keep its Fed funds target rate at 0 to 0.25%. It also decided to extend the average maturity of its holding of Treasury securities. By the end June 2012, it plans to buy $400b of Treasuries with maturities of 6 to 30 years. It aims to sell an equivalent amount of securities with maturity of 3 years or less. The policy aims to put downward pressure on long-term interest rates to help make financial conditions more accommodative. It was notable that three members of the committee dissented on the vote and did not support additional monetary stimulus.

The immediate response in US interest rate markets was as expected, with the yield on US 2-year bonds surging higher from 15bps to above 21bps. US 10-year yields fell from 1.94% to below 1.86%, new lows.

NZ long yields will likely feel some downward pressure today given the downshift in US yields overnight. The short end of the NZ curve will take its cue from today’s Q2 GDP release. We see downside risk to the market’s expectation for 0.5%. However, we believe a weak outcome is still consistent with growth momentum building into 2H.

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

Mike Burowes and Kimberly Martin are part of the BNZ research team. 

All its research is available here.

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