Widespread panic across markets

Currencies

Issues in Spain go from bad to worse sending markets into a nosedive

24th Jul 12, 8:07am by bnzeconomists

by Mike Jones

NZD

The NZD has been the weakest performing currency over the past 24 hours. The NZD/USD has shed almost a cent, to trade around 0.7880 currently.

Friday’s case of the jitters morphed into panic and generalised risk aversion overnight. Worries about the solvency of Spain and Italy stepped up a notch and, not to be outdone, Greece also returned to the headlines (see Majors).

But rather than the usual knee-jerk EUR selling, this time it’s been the NZD and AUD that have borne the brunt of the latest European dramas. Indeed, NZD/EUR recorded the largest decline in around two months overnight.

Global equity markets are a sea of red and commodity prices have fallen precipitously. Oil prices are down more than 4% and losses in the CRB global commodity price index are approaching 2%. Our own risk appetite index (scale 0-100%) slipped from 64% to 57.4%.

Sliding risk appetite and commodity prices saw investors shun the ‘risk-sensitive’ NZD and AUD in favour of the USD and JPY. From above 62.60, NZD/JPY slid back to almost 61.80, helping drag NZD/USD back below 0.7900.

Looking ahead, we are still a day or so away from this week’s important local data and events (Australian CPI, NZ trade data, and the RBNZ meeting). So expect global attitudes towards ‘risk’ to remain the key driver of the currency in the short-term.

For today, widespread equity market weakness and heightened risk aversion may limit NZD/USD bounces to 0.7950.

For RBA watchers, keep an eye out for a 3pm (NZT) speech from Governor Stevens to the Anika Foundation. With the speech reportedly entitled ‘The Lucky Country’, and Australian markets still pricing over 100bps of additional RBA easing, we may well get one or two AUD/USD supportive headlines.

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Majors

Financial market sentiment nose-dived overnight as the pain in Spain went from bad to worse. Rising risk aversion ensured the ‘safe-haven’ USD and JPY outperformed.

Spanish government bond yields hit fresh highs overnight as Murcia became the second Spanish province to ask for a bailout (following Valencia on Friday). At almost 7.5%, the 10-year yield is now well into the ‘bailout-zone’.

But the bad news wasn’t just limited to Spain. Whispers the Italian region of Sicily may also be in trouble, and chatter the IMF is now refusing extra aid for Greece also unnerved investors. Italian sovereign CDS spreads are now above 500bps, with Spain above 600bps – indicative of a market ascribing an increased probability of default.

Mounting sovereign solvency worries knocked equities for six. European stock indices plunged 2.0-3.2%. The weakness eventually prompted Italy and Spain to reactivate short selling bans, a sure sign of panic. Oil prices collapsed over 4% and the VIX index (a proxy for risk aversion) leapt from 16% to almost 21%.

Against a backdrop of soaring risk aversion and equity/commodity price weakness, investors flocked back to the relative ‘safe-haven’ of the USD and JPY. The EUR/USD briefly slipped to a fresh 2-year low below 1.2050.

EUR/JPY hit 11-year lows. With USD/JPY also close to 5-month lows, investors are increasingly on watch for Bank of Japan intervention. We don’t think recent JPY movements could be construed as ‘disorderly’. As such we doubt we’ll see intervention unless USD/JPY moves rapidly through 77.00.

Looking ahead, whether the current backdrop of risk aversion and USD strength will be sustained may well depend on the relative strength of this week’s data.

The Flash Eurozone PMIs should show the manufacturing sector remaining in contraction, but perhaps with some signs of a bottoming. Today’s HSBC Chinese Flash PMI for July will provide a timely update on the Chinese manufacturing sector. A fall further into contractionary territory (48.1 in June) would be negative for sentiment.

Later in the week we get preliminary Q2 GDP readings for the US and UK. For the US, a weaker result than the 1.4% (q/q annualised) expected would likely reawaken hopes of additional Fed easing. Such an outcome would provide headwinds for the USD, offsetting some of the ‘safe-haven’ allure it currently enjoys.

Other news: The rarely watched Chicago Fed index printed at -0.15, up slightly from -0.45 last month. Stronger than expected Australian producer prices (0.5%q/q vs. 0.3% expected) sees a few analysts revise up expectations for AU CPI tomorrow.

Event Calendar:
24 July: CH HSBC manufacturing PMI; AU RBA’s Stevens speaks; EU manufacturing/services PMIs; US Richmond Fed index; US house prices; 25 July: NZ trade balance; AU CPI; EU German IFO; UK Q2 GDP; US new home sales; 26 July: NZ RBNZ OCR review; NZ finance minister speaking; US durable goods orders; US jobless claims; US pending home sales; 27 July: EU German CPI; US Q2 GDP; US Michigan consumer confidence.

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8 Comments

by Stephen Hulme | 24th Jul 12, 9:55am 1343080536

The NZD has been the weakest performing currency over the past 24 hours. The NZD/USD has shed almost a cent, to trade around 0.7880 currently.

I am surprised it has held up so well despite the RBNZ's best efforts to derail it's main purpose in life: a stable store of wealth.

The unfolding crisis in Europe focuses investor attention on the possible default of the New Zealand banking system as foreigners willingness to extend funding at any price to New Zealand debtors is increasingly called into doubt.

The RBNZ's moral hazard deflection plan otherwise known as Open Bank Resolution hardly inspires locals to not defect to the safety of those foreign states upholding the traditional values associated with domestic currency savings.

by Bernard Hickey | 24th Jul 12, 11:49am 1343087341

Stephen

Which foreign states uphold 'traditional values associated with domestic currency savings.'?

It seems as if Australia and New Zealand are the last ones still not printing.

cheers

Bernard

by steven | 24th Jul 12, 12:09pm 1343088568

I assume the assumption that the Govn will do or does a depositor guarantee scheme....aka the US.

regards

by steven | 24th Jul 12, 12:08pm 1343088493

Moral hazard? hello but why should depositors believe they are back stopped by a Govn? any endevour or undertaking carries a risk of failure. Eyes open wide time me thinks....

regards

by Stephen Hulme | 24th Jul 12, 12:50pm 1343091024

No more so than borrowers should expect to speculate with any thing less than 50 % equity in their speculative property buying endeavours. And if Higher LVRs are OK let's segregate the depositors willing to back that risk and offer them a risk return they find acceptable.

by Stephen Hulme | 24th Jul 12, 12:40pm 1343090427

Bernard as a small derivative currency nation we enjoy the privilege of borrowing swap hedged print tainted money from larger nations - historically this has been the United States and it's recognised vassal states. It saves us from negotiating our trade imbalances directly with agressive less sympathetic nations and serves to cement our quasi US protectorate status in a lonely ocean.

by Stephen L | 24th Jul 12, 2:49pm 1343098182

Is it really a privilege, or more of a poisoned chalice, that we borrow money from other countries looking to devalue their own currencies. E.g. Switzerland, the UK, China, Japan and so on? It seems to me there has been a very willing supply of such money, rather than a natural demand for it; but once it has been turned into NZD, and so inflated our currency, all our price signals encourage us to buy offshore goods and services, and relatively more difficult to sell our own.

If our currency and savings have been debased, surely that has been by in fact net dissaving for 40 years. As the IMF notes, the NZD is worth probably 20% less than it's exchange rates suggest, because of that net spending reflected in the current account. In my view the Reserve Bank have been absolutely culpable for many years in delaying the day of reckoning, until a point where the NZD will have to fall off a cliff.

Best we manage that process ourselves, rather than have it forced on us.

by Stephen Hulme | 24th Jul 12, 6:37pm 1343111869

Is it really a privilege, or more of a poisoned chalice, that we borrow money from other countries looking to devalue their own currencies. E.g. Switzerland, the UK, China, Japan and so on? It seems to me there has been a very willing supply of such money, rather than a natural demand for it; but once it has been turned into NZD, and so inflated our currency, all our price signals encourage us to buy offshore goods and services, and relatively more difficult to sell our own.

They hardly notice our prescence - as I have noted before the size of our economy represents a rounding error in respect of our Northern Hemisphere conterparties. So you must not confuse our significance on the financial world stage other than our importance as a self contained modern economy to undertake valuable monetary experiments.

If our currency and savings have been debased, surely that has been by in fact net dissaving for 40 years. As the IMF notes, the NZD is worth probably 20% less than it's exchange rates suggest, because of that net spending reflected in the current account. In my view the Reserve Bank have been absolutely culpable for many years in delaying the day of reckoning, until a point where the NZD will have to fall off a cliff.

Best we manage that process ourselves, rather than have it forced on us.

I cannot give a toss what someone says the currency is worth. - it's worth exactly what it trades at any time one has to execute a trade. Flexible trading adjustments have to made around that reality, using derivatives etc.

Implicit if not currently explicit US military support comes with contingent duties. Do you not think China might have Southern Pacific Ocean ambitions beyond a free trade agreement if it were not for our longstanding relationship as a military ally of the US?