NZD lifted from its pre-MPS level of 0.6925 to 0.6970 during the RBNZ press conference and has held up well since then; RBNZ significantly revised upwards its CPI inflation track; USD is slightly weaker on tax bill negotiations

By Jason Wong

Risk appetite is lower as US tax bill negotiations continue and it’s not looking great.  That’s had more impact on US equites than the modest changes seen in currency markets.  The USD is slightly weaker while UST yields are slightly lower.

US equities are down 1% as I write, with uncertainty around tax reform overhanging the market.  News came through that the Senate tax bill will delay the corporate rate cut to 20 percent until 2019. Meanwhile, the debt ceiling issue has come into focus again, with the current funding agreement expiring on 8 December, after being pushed out a few months ago.  Extraordinary measures can be used to avoid a debt default through to the end of January, but again it’s just a bad look and highlights the gridlock in Washington.

Adding to the risk-off mood, credit markets have been doing it tough recently, with the high yield (junk bond) market spitting the dummy this week, seeing rising spreads and some arguing that it might be the canary in the coalmine for a well-overdue correction in global equity markets.   Spreads on US investment grade debt rose to a 1-month high, as the market is choked with supply, as deals are funded before tax laws potentially change.  Japan’s Nikkei fell by 0.2%, but intra-day there was a minus 3.5% fallout at one stage.  The VIX index is up over 20% to 12.  All in all, risk assets are underperforming and markets look more shakey then they have in a long time.

Against that backdrop the NZD has held up well, sustaining the modest rally we saw after the RBNZ MPS announcement.   As expected, the RBNZ significantly revised upwards its CPI inflation track through to the end of next year, so inflation is now projected to reach and settle at the 2% mark some nine months earlier than previously projected, around mid-2018.  The Bank maintained its view that “monetary policy will remain accommodative for a considerable period”, but brought forward ever so slightly the possibility of the first rate hike in the cycle to mid-2019.

The NZD lifted from its pre-MPS level of 0.6925 to 0.6970 during Acting Governor Spencer’s press conference.  He noted that the NZD was closer to a sustainable level, in the vicinity of fair value, and this was backed up by the Bank projecting a flat TWI at 73.5.  It was a refreshingly honest assessment and something we agree with when seen in a medium-term context.  That the NZD didn’t rally hard after this comment suggested that traders weren’t really in a mood to push the NZD a lot higher, perhaps a reflection of the global backdrop, with commodity currencies not well-liked at present.  It suggests a hurdle for the NZD to push on up from here.  The NZD touched a high of 0.6980 overnight and currently sits lower at 0.6960.

Relative to pre-MPS levels, the NZD is slightly higher against the AUD, CAD and GBP and flat against EUR and JPY.  The Bank will be happy with the fairly muted currency reaction, considering its lifting of the inflation dial.  The key theme for the majors is USD weakness as debate over the tax bill continues.  There has been no top tier economic data.  The European Commission forecast that the euro area economy will expand at the fastest pace in a decade this year and strong growth will be sustained through next year, while growth in the UK is headed for a prolonged slowdown.  It’s a theme that is well acknowledged.

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