RBA cut tied to weakening international outlook and non-mining components of economy

By Mike Jones

NZD

It’s been a night of déjà vu for the NZD/USD, testing 0.8330, before again slipping back to support around 0.8270/80. The bigger story has been in NZD/AUD, which is trading at one year highs around 0.8060 following yesterday’s RBA meeting.

The RBA yesterday cut its cash rate 25bps to 3.25%, surprising more than a few.  The cut seems to be tied to both a downgraded international outlook (China) and concerns about weakness in the non-mining parts of the Aussie economy.

With the market not fully priced for a cut, the knee-jerk reaction saw the AUD/USD slide ½ cent to 1.0300. The NZD/USD, in contrast, barely blinked, as NZD/AUD shot above 0.8050.

We suspect there is more easing to come from the RBA, assuming inflation remains benign and the global outlook remains lacklustre. The timing of the next move is highly uncertain but anticipation of a follow-up move in November should keep the AUD/USD heavy into the meeting.

The RBA’s pre-emptive action also leaves us more comfortable with our long-held view the NZD/AUD should trend higher into year-end.

We continue to target 0.8200. Notably, the short-term ‘fair-value’ range implied by our valuation model has shifted up to 0.8000-0.8200 in the wake of the RBA decision.

NZ commodity price data released over the past 24 hours has broadly matched our expectations. The ANZ commodity price index rose a strong 3.5% yesterday. This supports our supposition the commodity price cycle has turned, a fundamental positive for the currency.

This morning’s dairy auction showed dairy prices slipping 0.9%. This looks to us like prices are taking a breather after their recent string of gains. After all, prices have now risen 20% in two months.

Looking ahead, there is no local data due for release until next Tuesday’s NZIER business survey. So expect the NZD/USD to take its cues from offshore. 

In this regard, today’s second tier Australian data will probably be glossed over as investors look towards tonight’s European services PMIs and retail sales, Thursday’s ECB meeting, and Friday’s US employment stats.

For today, a late sell-off in US stocks means support levels on the NZD/USD will continue to be tested. Through 0.8270, and 0.8240 would stand out as the next layer of support.
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Majors

Broadly speaking, markets retained a more optimistic tone overnight, keeping the ‘safe-haven’ USD on the back-foot. European currencies have generally outperformed, with the AUD the clear laggard. Still, movements overall have been fairly subdued.

There was just enough good news to keep this week’s ‘risk-on’ mood intact. Press reports and chatter that Spain is edging towards applying to the ESM for aid buoyed sentiment in European debt markets. Peripheral spreads narrowed sharply – the Spanish/German 10-year bond spread eased 15bps to 430bps.

On a quiet night, this was enough to underpin the EUR and European currencies more generally. The EUR/USD climbed around half a cent to 1.2940, with NOK, CHF and GBP all dragged up in sympathy.

Markets elsewhere were not quite as convinced, limiting the reaction in currencies. Global equity markets are flat to down slightly, commodity prices have barely moved, and bond yields are tracking sideways.

It’s anyone’s guess as to when Spain will formally apply to the ESM for assistance. We do know that immense diplomatic pressure is being placed on the Spanish PM to do so. An EU Summit is scheduled for October 18-19 in Brussels.

Chances are we get an application before this. This could see the EUR/USD pop higher still – perhaps to test resistance around 1.3160. However, we need to see concrete evidence of stabilising European economic activity before the EUR can trend higher in any sustainable fashion. This looks unlikely in the near-term.

Tonight, US ADP employment figures look to be the pick of the data bunch, as investors once again try to get an early steer on Friday’s non-farm payrolls.

Other news:

*UK construction PMI rises in September, but remains in contractionary territory (49.5 from 49.0 – 49.9 expected).

*Spanish unemployment goes from terrible to more terrible. Unemployed numbers in September rise from 38.2k in August to 79.6k (57k expected).

Event Calendar: 3 October: CH non-manufacturing PMI; AU home sales; AU trade balance; EU services PMIs; EU retail sales; US ADP employment; US ISM non-manufacturing index; 4 October: AU building approvals; AU retail sales; UK BoE decision; EU ECB decision; US jobless claims; US factory orders; US Fed minutes; 5 October: JN BoJ decision; EU German factory orders; US non-farm payrolls.

All its research is available here.