Roger J Kerr says the appreciation of the NZD into headwinds tells you a lot about the increasing growth momentum in the New Zealand economy

 By Roger J Kerr

Recent Kiwi dollar gains to 0.8100 against the USD have been achieved despite a string of negative events and developments that would normally force the currency value downwards.

The appreciation into these headwinds tells you a lot about the increasing momentum of growth in the New Zealand economy and global investors seeing that performance outweighing short-term negative factors.

The negative variables over the last two weeks being:

· A major food safety scare from the contaminated whey protein concentrate shipped by Fonterra to its customers. The FX markets rapidly moved on to the next issue when it was realised the problem was not terminal for New Zealand’s largest export industry. The immediate plunge to 0.7700 two weeks ago when the problem hit the newswires was quickly reversed and the NZD/USD has lifted four cents since.

· Yet another earthquake rocking central New Zealand on Friday afternoon was insufficient to cause any long lasting selling of the Kiwi dollar. Maybe offshore currency traders and investors are becoming as immune to quakes in the shaky isles as we are.

· The Dow Jones has recorded its worst week of the year as corporate earnings disappointed and investors fretted about stronger US economic data causing the Federal Reserve taking the QE candy away. Six months ago the Kiwi dollar would have tracked the Dow Jones Index lower as investors adopted a “risk off” approach to all asset classes. There is now more differentiation going on as investors move out of emerging market currencies (Brazil, India, Russia, Mexico, Turkey and Thailand) and favour a currency like the NZ dollar which is odds on to be the first economy to remove monetary stimulus and increase interest rates early next year.

· The economy of our largest trading partner (Australia) has struggled over recent months and that lower demand would normally be regarded as a negative for the eastern state across the Tasman Sea. However FX markets are always very forward looking and may already be concluding that the  now lower interest rates/currency value in Australia and stabilising mining commodity prices place the Australian economy back on a growth track in 2014.

The strong NZ domestic economic data coming out continues to underpin the NZ dollar through the expectation of interest rate increases from March.

Last week saw rising house prices, a high consumer confidence index, very robust retail sales and a stronger manufacturing PMI.

Further upside to the NZD/USD appears limited provided the USD reverses its performance against Euro and heads back to $1.3000 from the current $1.3330.

The gap between the EUR/USD exchange rate and the 2-year interest rate differential is the widest it has been since the Euro shot up a year ago when ECB Chief Draghi said he would do whatever it takes.

As US interest rates increase and European interest rates stay stable or decline further it is hard to see the EUR/USD remaining at $1.3300.

A return of the EUR/USD to below $1.3000 should limit NZD gains above 0.8100 and return it to the 0.7800/0.7900 area over coming weeks.

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Roger J Kerr is a partner at PwC. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com