Opinion: NZ$ firm after strong Fonterra auction; Euro and pound weak

By Mike Jones The NZD has been one of the stronger performing currencies over the past 24 hours. Yesterday’s strong Fonterra milk price auction, along with widening interest rate spreads saw NZD/USD spend last night drifting higher. The main theme in currency markets overnight was a broadly stronger USD. Both GBP and EUR were hit by renewed concerns about the health of the European economies. Eurozone Q4 GDP growth was revised back to flat (from 0.1%q/q) and the UK services PMI also underwhelmed (falling to 56.5 against the 58.0 expected). The associated slide in GBP and EUR paved the way for a broad strengthening in the USD, as did modest declines across global equities (the S&P500 is currently down around 0.6%). However, the NZD managed to escape the wrath of the stronger dollar, and spent the night drifting up towards 0.7080. Yesterday’s buoyant Fonterra milk price auction provided a reminder of the terms of trade boost that is supporting NZ’s economic recovery. What’s more, falls in US interest rates (on the back of dovish sounding Fed officials) saw NZ-US 3-year swap spreads widen out to 290bps, from closer to 280bps at the start of the week. A modest recovery in NZD/AUD from yesterday’s 9½ lows also underpinned the NZD last night. Our new model suggests the currently combination of NZ-AU 3-year swap spreads, relative business confidence and commodity prices is consistent with a short-term “fair-value” range in NZD/AUD of 0.7600-0.7800. As such, we suspect any dips in NZD/AUD below 0.7600 will be short-lived in the near-term. Whether or not NZD/AUD can hold onto last night’s gains will depend on this afternoon’s Australian employment data for March (due at 1:30pm NZT). Analysts currently expect a 20,000 jobs gain, so anything greater than this would send NZD/AUD lower, with NZD/USD likely to test initial support towards 0.7030. The USD strengthened against most of the major currencies overnight. Still, as has been the case for the past week or so, strength in the USD was really all about a weaker EUR. Most of the other major currencies were broadly flat against the USD last night. A combination of growth concerns and ongoing sovereign credit fears weighed on EUR, driving EUR/USD down to nearly 1.3330. Fourth quarter Eurozone GDP growth was revealed to have stalled, after the 0.1% gain previously reported was revised lower. And Greek bond spreads continued to edge higher (to a new record high of 412bps over German bunds), indicative of a greater implied risk of default. The widening in spreads came amid news Greek banks have asked the government for more financial support. However, it wasn’t all bad news in Europe. The Eurozone Composite PMI held its ground in March (ticking up to 55.9, against the steady 55.5 expected), portending a pick-up in growth momentum in early 2010. GBP traded heavily after the UK services PMI highlighted the fragile state of the UK economy. It dipped to 56.5 in March (vs. expectations of 58.0), dragging GBP/USD lower, before bouncing off support towards 1.5140. We suspect economic news will take a backseat as a driver of GBP as we approach the May 6 UK election date. Instead, political polls – in particular the extent they indicate the risk of a hung parliament– will be key to the GBP’s fate in the short-term. An outright majority for the conservative party would be seen as GBP-positive. Mixed messages were the order of the day from last night’s army of Fed speakers. Kansas Fed President Hoenig (regarded as a hawk) maintained his hawkish tune, suggesting keeping interest rates low for too long could cause asset bubbles. In contrast, speeches from Fed chairman Bernanke and New York Fed President Dudley stressed the Fed is in no hurry to raise rates given the US economy is “far from being out of the woods”. US interest rates tumbled (10-year Treasury yields slipped 9bps to 3.86%), providing some headwinds for the USD. But this had more to do with strong demand for the US$21 billion of 10-year notes auctioned last night. It’s worth nothing, speculation is mounting China will soon allow a relaxation of the Yuan peg to the USD. A Chinese economic agency is reportedly assessing how Chinese exporters would cope with a rising currency, while Chinese officials are dropping hints a more flexible Yuan is likely in future. We reckon China will relax the Yuan’s peg to the USD sometime around the middle of the year, but the risk is probably for an earlier move. *All of the research produced by the BNZ Capital team of economists is available here