By Roger J Kerr*
Despite briefly dipping below previous support levels last week to a low of 0.6700 on 2 July, the Kiwi dollar is again displaying its typical resilience characteristics and has recovered back to 0.6830.
A whole plethora of factors are stacked against the Kiwi dollar currently that suggest continuing weakness on the FX markets (lower dairy prices, weaker Chinese data/markets, stronger USD, soft business confidence), however it requires fresh new sellers of the currency (in volume) to force it sustainably lower.
The latest currency price action suggests new speculative sellers are not being attracted into the market at rates below 0.6800 in the expectation that the NZD/USD rate will depreciate further.
The explanation for the absence of follow-through selling is that the speculators are already heavily “short-sold” the Kiwi and do not have the appetite to add to those existing positions. On the Chicago Futures market, where US hedge funds and speculators transact their Kiwi dollar trading, the number of open “net short-sold NZD” positions at 18,000 is already near the maximum the market usually gets to.
The Chicago CFTC futures market has been at similar and extreme high “NZD short-sold” open positions over recent years (18,000), all with the identical results in terms of subsequent exchange rate movements: -
- In mid-2015 the Kiwi subsequently reversed sharply upwards from the 0.6400 lows it reached when dairy prices collapsed.
- In mid-2017 the speculative element sold the Kiwi down to 0.6800, however it depreciated no further and subsequently climbed back to 0.7500 on a weaker USD.
- In October/November 2017 the Kiwi was again sold down to 0.6800 on the uncertainly of the new Labour Coalition Government surprisingly coming to power. The Kiwi dollar again recovered and appreciated back to the 0.7200/0.7400 trading range over the first four months of this year.
The nature of speculative FX trading is that at some point the punters who have sold the Kiwi dollar in expectation of lower levels to buy it back at (to make profits), always run out of patience when new lows are not achieved. They then become NZD buyers to unwind and close their speculative positions. At 18,000 open CFTC positions currently in the NZD/USD exchange rate market there are a lot of traders all looking at doing the same thing – buying the Kiwi. A return of the NZD/USD exchange rate to 0.7000 over coming weeks should be expected as the CFTC positions are all unwound in a one-way Kiwi dollar market.
It often requires a piece of economic or business news to act as a catalyst to prompt the NZD speculators to close their short NZD positions.
Next weeks’ (Tuesday 17th) CPI inflation data for the June quarter could be that trigger that sets of a fresh wave of NZD buying.
The official RBNZ forecast is for a 0.4% increase in the CPI inflation rate over the June quarter. However, that forecast was predicated on a much lower oil price (US$55/barrel) than we have seen over the last three months (over US$70/barrel).
Added to the increase in the price of crude oil is the lower NZD/USD exchange rate over the period, resulting in significant increases in local fuel and freight prices over recent weeks.
Continuous decreases in technology and telecommunications prices have been the standout feature and cause of the very low inflation we have experienced in New Zealand over recent years. At some point those prices will no longer be decreasing at the same rate, exposing the other general price increases in the economy that have been disguised to date.
The FX market would be surprised at a 0.6% or 0.7% increase in the June quarter, however such a result should not be dismissed at it would be a catalyst for NZD buying.
Whole milk powder commodity prices declined 7% to US$2,900/MT at the last NZ Dairy Trade auction on 3 July, certainly contributing to the short-lived NZD sell off to 0.6700 on the day.
However, over recent months the NZD/USD exchange rate had already depreciated much further than what whole milk powder prices around US$3000/MT would suggest in terms of their close correlation.
Further falls in dairy prices through our winter off-season production period are not expected.
The NZD/USD exchange rate could comfortably appreciate to 0.7000 and that would re-connect the currency/dairy price correlation to be more in line with a US$3,000/MT whole milk powder prices.
*Roger J Kerr is an independent treasury Management advisor. He has written commentaries on the NZ Dollar since 1981.