FOMC minutes show discussion around a faster taper, supporting US short-term rates and the USD. NZD hits three-month low overnight, EUR and GBP hovering near 12-month lows

Markets have been deathly quiet overnight with the US markets closed for Thanksgiving holiday.  The NZD continues to drift lower amidst a stronger USD, hitting its lowest level in three months overnight.  Meanwhile, NZ short-end swap rates slightly extended their post-MPS falls yesterday with liquidity starting to improve again.

The FOMC minutes, released shortly after this report came out yesterday, had a hawkish tone.  Fed staff revised up their inflation forecasts (again) and while inflation was expected to return to 2% by the end of next year, “many participants” thought it could prove more persistent than this.  Consistent with recent comments from a range of Fed officials, the minutes highlighted a discussion around the possibility of a faster tapering.  Goldman Sachs said it now expects the Fed’s tapering to finish by mid-March next year, rather than the original June end date, with the first hike to take place in June, although the bank highlighted that a May rate hike was a risk.  The market is already there, with the first hike fully priced by June and the US 2-year rate at its highest level in 18 months.

Against a backdrop where the Fed is expected to be raising rates in the first half of next year, the USD remains on the front foot, with the Bloomberg USD index (BBDXY) trading near its highest level since July last year.  The BBDXY has gained 2.5% this month, consistent with the 20bps increase in the US 2-year swap rate as the market has brought forward Fed rate hike expectations.

Currency movements overnight have been negligible, with all the major currencies within +/-0.2% of their levels 24 hours ago.  The NZD has traded as low as around 0.6840 overnight, a three-month low, while the EUR and GBP are both hovering near 12-month lows.

US equity and bond markets have been closed for Thanksgiving, but futures markets have remained open and these show limited change in bond rates and small (+0.1-0.2%) increases in equities.  Equities are modestly higher in Europe and Asia while 10-year bond rates are a few basis points lower in Europe and the UK.

In China, Bloomberg reports that authorities in the city of Chengdu (population 21 million) had loosened property rules in a bid to ease the cash crunch on struggling developers, the first major local authority to do so.  Among the changes, developers will be allowed to use the proceeds from pre-sold properties if they meet certain construction thresholds and the authorities will work with banks to speed up loan approvals.  Meanwhile, Xinhua reported that China’s State Council had encouraged local governments to step up construction projects to support the economy.

After initially reacting positively to the news, base metals prices are now lower on the day (copper -0.7%, nickel -1.2%).  Markets remain cautious about the outlook for Chinese growth given the slump in the real estate sector and with the authorities still pursuing their elimination approach to Covid-19.  Shanghai yesterday reported three new cases, highlighting the continued risk that Delta could seep into the community, prompting new restrictions.

In the domestic rates market, yesterday saw short-end swap rates slightly extend their post-MPS falls.  The 2-year swap rate was down another 2bps, following Wednesday’s 16bps decline, although to put things in context, it is only back to where it was two weeks ago, at 2.23%.  Despite the RBNZ opting for a 25bps move in November and its talk of taking “considered steps” with the OCR, the market still puts around a 25% chance of a 50bps increase at the next meeting in February.  Liquidity appears to be returning to short-end swaps post the MPS, an encouraging development after the market had become one-sided and illiquid at times during October and November. The yield curve had a steepening bias again, with the 10-year bond yield up 2bps on the day.

It will likely be another quiet session ahead with many US market participants likely to still be off work after Thanksgiving.  The local market will keep one eye on the ANZ consumer confidence survey, which has slumped over the past few months.  The RBNZ MPS noted the risk that the spread of Covid across the country could lead to weaker confidence, in turn dampening spending.