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NZ dollar benefits as easing Japanese nuclear fears build global risk appetites

NZ dollar benefits as easing Japanese nuclear fears build global risk appetites

 
By Mike Jones
 
Compared to the vicious volatility of last week, movements in currency markets were relatively subdued overnight. The NZD/USD spent most of the night drifting higher as risk aversion continued to ease from last week’s highs. Three-month NZD/USD volatility fell from above 14% on Friday to around 12% (long-run average = 13.7%).
 
Reassurances Japanese authorities are making progress in addressing radiation issues at the stricken Fukushima nuclear plant have helped soothe investor nerves over the past 24 hours. Asian stocks rallied 0.4-1.7% yesterday and the more upbeat sentiment flowed through to the overnight session. The S&P500 is currently up around 1.5% and our risk appetite index (which has a scale of 0-100%) jumped a whopping 9% points to 59.3%.
 
The less risk averse global backdrop saw investors reduce the extent of ‘short’ positioning in NZD and AUD. Easing fears about a sharp slowing in Asian growth also bolstered Australian cash rate expectations yesterday, with RBA rate cuts all but priced out of the curve at a 12 month horizon. All of this helped lift the AUD/USD from below 1.000 to above 1.0050 overnight, dragging the NZD/USD up to nearly 0.7350 on its coat-tails.
 
Looking ahead, we suspect trends in global risk appetite will remain the dominant driver of the NZD/USD this week. As ever, developments in Japan and the Middle East will be important to watch in this regard.
 
However, a couple of big data releases should ensure the NZD receives some local direction as well. Most notably, we have settled on 0.2% for Thursday’s Q4 GDP number. A negative number cannot be ruled out. Certainly, this sort of outcome would evoke the largest reaction from the NZD.
 
All up, we doubt we’ll see a sustained break of last week’s 0.7120 low in the NZD/USD this week, absent another melt-down in global stock markets. Still, our short-term valuation model suggests the balance of risks are still tilted towards the downside. The model currently estimates a NZD/USD “fair-value” range of 0.7050-0.7250. 
 
Majors
Overnight, equity markets and risk appetite continued to claw back part of the ground lost last week. The consequent reduction in “safe-haven” demand saw bond yields rise and currencies like the USD, CHF and JPY generally weaken.
 
Global stocks have posted strong gains over the past 24 hours as concerns about Japan’s nuclear crisis eased. Japanese authorities yesterday managed to restore power to some parts of the Fukushima nuclear power plant, bringing down radiation levels. AT&T's US$39b proposal to buy T-Mobile USA from Deutsche Telekom added to positive US equity market sentiment.
 
The Hang Seng rose 1.7%, the German DAX surged 2.3%, the FTSE increased 1.2%, and the S&P500 is currently up around 1.4% (the Nikkei was closed for a holiday). The VIX index (a proxy for risk aversion based on S&P500 implied volatility) dived from 25% to below 21% – around where the index was prior to the eruption of Japan’s nuclear crisis.
 
Retreating risk aversion sapped demand for “safe-haven” assets, as investors became more confident about the global outlook. US bond yields inched 3-5bps higher across the curve and safe-haven currencies like the USD, CHF and JPY underperformed.
 
USD/JPY ground up from 80.80 to almost 81.30, USD/CHF jumped from below 0.9000 to around 0.9050, and EUR/USD climbed to a fresh 4-month high above 1.4200.
More hawkish ECB rhetoric helped underpin the EUR’s rise. ECB official Mersch said “very high vigilance” was required (“vigilance” has often been used as code for an impending rate rise), while Italian central bank chief Draghi said the ECB is ready to act in a “firm and timely way".
 
In contrast, last night’s US economic data was anything but supportive of the USD. Existing home sales slid 9.6%m/m in February (-4.2% expected), implying a sustained housing market recovery is still a long way off. Still, news the US Treasury will begin selling off its US$142b mortgage backed security portfolio provided some temporary support to the ailing USD.
 
Looking ahead, event risk for currency markets will come from familiar sources this week. In particular, Japan’s nuclear crisis and the possibility of further BoJ intervention will remain in focus, as will the unrest in Libya and Middle East more generally. The effects of such on investors’ risk appetite should largely dictate currency market sentiment this week. For today, we suspect fading risk aversion and upbeat equity market sentiment will limit rallies in the USD index to 75.75.

Mike Jones is part of the BNZ research team. 

All its research is available here.

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