Opinion: Wholesale interest rates fall after OCR talk, NZ$ rebounds on US GDP data

By Danica Hampton As widely expected, the RBNZ left rates unchanged at 2.50% yesterday. However, the accompanying statement made it clear "in contrast to current market pricing" the central bank was in no hurry to raise rates and expects "to keep the OCR at the current level until the second half of 2010." In essence, the RBNZ remains sceptical about the sustainability of NZ growth and we remain comfortable with our view of the first rate hike coming in June 2010. In reaction to the RBNZ statement, NZ interest rates dropped sharply as investors pared back to odds of near-term rate hikes. NZ 2-year swap rates fell about 20bps from 4.73% to 4.53%. The reduced interest rate support added to the selling pressure on NZD. Heavy NZD selling was noted against most currencies, but particularly AUD and JPY. NZD/USD slipped from just under 0.7300 to around 0.7160 "“ its lowest level in about a month. However, the NZD/USD weakness didn't persist through the offshore session. Stronger-than-expected US Q3 GDP (it rose at an annualised pace of 3.5% vs. 3.2% forecast) helped shore up confidence in both the US and global recovery. Global equities rebounded sharply (the S&P500 is currently up 2.3%) and risk aversion eased (our risk appetite index has jumped to 48% from yesterday's 42%).

As a result, investors trimmed back "safe-haven" positions in the USD and JPY in favour of growth sensitive currencies like NZD. Strong real-money demand out of Asia was noted for JPY crosses last night, perhaps related to Japanese investment fund launches or US Treasury repatriation. Many short-term speculative players were squeezed out of freshly entered short NZD positions and NZD/USD rebounded swiftly from around 0.7160 back towards 0.7350. For today, the global backdrop of a weaker USD and recovering risk appetite should provide some support for NZD/USD. However, we suspect NZD/USD will find headwinds towards 0.7375-0.7400. Initial support is seen ahead of 0.7225-0.7230. The USD slipped against all of the major currencies last night, as stronger-than-expected US GDP helped shore up confidence in the global recovery. US GDP printed at an annualised rate of 3.5% in Q3, well above expectations for a 3.2% gain. This was the fastest rate of quarterly growth since Q3 2007. Over the past few weeks, a string of lacklustre global data has cast doubts over the strength of the global recovery. However, last night's US GDP helped reassure investors that the US, and global, economic recovery was still on track. The stronger-than-expected US GDP helped equity markets recovery from three-week lows. Positive earnings reports from household goods maker, Procter & Gamble and Colgate-Palmolive also helped lift equity sentiment. The S&P500 has rebounded about 2.3% off the 3½ week low seen yesterday, and the MSCI World Index is up about 1.5% from yesterday's 3-week low. The USD weakened sharply last night as growing confidence in the global recovery and rebounding equities saw investors pare back "safe-haven" positions. The VIX Index (the implied volatility of the S&P500 "“ a commonly used measure of risk aversion) eased from yesterday's 28% high to around 25% last night. Reduced risk aversion and solid demand for JPY crosses (thought to be related to Japanese investment fund launches or coupon repatriation) saw USD/JPY rebound from around 90.20 to above 91.60. Meantime, EUR/USD surged from below 1.4700 to around 1.4850 and GBP/USD rose from sub-1.6400 to above 1.6600 (there was chatter about merger and acquisition flows in GBP). While last night's US GDP provided some comfort in the global recovery story, we're not yet convinced the world is suddenly a better place and the USD will resume its downward slide. It's worth noting, the strong Q3 US GDP result was driven by the dramatic policy stimulus "“ both monetary and fiscal "“ and doesn't necessarily mean that growth will be strong going forward (particularly if this stimulus is starting to be withdrawn). Media reports suggest European officials will raise concerns about the strong EUR at the next G20 meeting (Scotland 6-7 November). Market News International quotes a Eurozone official as saying "We need a strong dollar. The ECB would not appreciate a parity of $1.50 over the medium term". If the USD resumes its weakening trend, we're likely to hear increasing rhetoric about a "strong USD" in the lead up to November's G20 meeting. But near-term expect the USD to take its cues from risk appetite and global equities performance. ____________ * Danica Hampton is BNZ's Senior Currency Strategist. All of the research produced by the BNZ Capital team of economists is available here.