By Roger J Kerr
Over recent weeks the Kiwi dollar foreign exchange market has driven itself into one big impasse.
The market (consisting of FX traders, speculators, hedged funds and real money funds) clearly does not want to buy the NZ dollar at such lofty levels when further NZ interest rate cuts are highly likely.
The lack of substantive buying above 0.7300 NZD/USD has developed a well-defined cap on the trading range.
On the other hand, the speculative fraternity are not yet prepared to sell the Kiwi down aggressively as there are no real alternative currency investments offering a 2% running yield return with the possibility of FX gains on some appreciation.
Thus the punters/investors remain in the Kiwi dollar as it is safer and offering a higher return that other currencies.
Just what the trigger or catalyst will be to shock these holders of Kiwi dollars into selling out is difficult to ascertain at this point.
Given that the economy is doing so well with over 3% GDP growth and our major export commodity price on the rise again, it appears that the game changer will not come from local economic sources.
The source of the force that drives the Kiwi either up through 0.7400 or below the support level at 0.72000 will come from offshore and therefore must relate the direction of the US dollar itself.
The price action in the US dollar value against the Euro over recent months has also reached something of an impasse.
The chart below confirms a clear converging wedge with the resistance and support levels in the EUR/USD exchange rate becoming progressively closer together as time marches on.
Something has to give, and when some event or market development propels the USD stronger or weaker against the Euro, the break out of the converging wedge formation will be a significant movement.
My view is that the US dollar will finally record major gains against the Euro when stronger than expected US economic data will make a US interest rate increase in December a near certainty.
The interest rate differential between the Euro and the US dollar already points to the fact that the US dollar is poised to strengthen below $1.1000 and move back to the $1.0500 level.
Should that eventuate, the 6% appreciation of the US dollar would have the NZD/USD rate down four cents to 0.6900.
US employment figures for the month of September coming out this Friday well above consensus forecasts of +178,000 may well be that trigger that sparks the US dollar appreciation and thus a lower Kiwi.
Before the jobs numbers on Friday, US ISM manufacturing and factory orders/durable goods data may also provide a read on progress with US economic growth.
Other potential data releases this week that could shake the Kiwi out of its tight trading range are the RBA OCR review on Tuesday (co change expected) and the Global Dairy Trade auction released Wednesday morning.
There is a hint that in the dairy commodity market the rapid price gains over recent months may have been “too far, too fast”.
A surprise pull-back in the Whole Milk Powder price at this week’s auction may be enough to push the NZD/USD rate below the strong support level of 0.7200.
Roger J Kerr contracts to PwC in the treasury advisory area. 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