Opinion: How the oil price fall drives the NZ$

By BNZ Currency Strategist Danica Hampton The NZD/USD slipped lower on Friday night, falling from above 0.7200 to nearly 0.7080, pressured by a rebound in the USD. The USD was sent higher by evidence that growth outside of the US is struggling and by a drop in crude oil prices. GBP/USD fell sharply from 1.8750 to 1.8500 after UK GDP was revised down from 0.2%q/q to zero. Meanwhile, crude oil prices fell $6.50 to below US$115/barrel following news that Russia was withdrawing troops from Georgia. Comments from Fed Chairman Bernanke, which implied the Fed was in no hurry to raise interest rates, helped underpin both US equities and the USD. With only second tier data due out of NZ this week, we suspect the NZD will be largely driven by USD sentiment. That said, keep an eye on NZD/AUD this week. Should the partial GDP indicators due across the Tasman suggest the Australian economy held up okay in Q2, we may see renewed downward pressure on this cross. Globally, the USD recovery was threatened last week by a sharp slide in crude oil prices and worries about the US financial sector. While the damage to the USD was limited by news that growth elsewhere in the world is also slowing sharply, unless this week’s US data shows some stabilisation, the USD may well struggle to extend its recent gains near-term. The NZD/USD is currently trading comfortably within the 0.7050-0.7250 “fair value” range implied by our short-term valuation model (which is based on NZ-US interest rate spreads, NZ commodity prices and risk appetite). This suggests we’ll need to see fresh impetus either in way of very soft NZ data or a sharp change in USD sentiment to push the currency out of its recent ranges. Over the coming week, we look for the NZD/USD to spend most of its time consolidating within a familiar 0.7000-0.7200 range. The USD strengthened against the major currencies on Friday night, thanks to a retreat in crude oil prices and evidence that growth outside of the US is struggling. The USD strength was kicked off by GBP/USD, which skidded sharply, from above 1.8750 to 1.8500, following downward revisions to UK GDP. Q2 GDP was revised down from +0.2%q/q to zero, ending the run of 63 consecutive quarters of economic growth. News that Russian troops were starting to pull out of Georgia saw crude oil prices slide, from above US$121 to below US$115/barrel, and this helped knock EUR/USD from nearly 1.4900 to below 1.4775. Comments from Fed Chairman Bernanke, suggesting the FOMC were in no hurry to hike interest rates, underpinned US equities and also helped bolster USD sentiment. There is a lot of key US data to be released over the next two weeks. Monday and Tuesday sees the release of US existing and new homes sales. Also on tap for next week will be Consumer confidence, Case-Shiller House Price Index and FOMC Minutes on Tuesday, Durable Goods on Wednesday and GDP on Thursday. As the US economy comes under further scrutiny we may see investors question the recent USD strength. However, we continue to think the recent rebound in the USD is less about perceptions the US economy is on the mend, and more about increasing evidence growth elsewhere in the world is deteriorating as fast as or faster than that in the US. The Eurozone economy is already halfway to a formal recession with a -0.2% q/q drop in GDP in Q2 and the optimism of the ECB looks increasingly misplaced. More timely surveys of manufacturing and services activity reveal further weakness in July, while consumer confidence and spending continues to slow rapidly. This week sees the final estimate of German Q2 GDP and the German IFO business survey should provide clues on whether the German economy will contract further in Q3. The recent slide in EUR/USD has come during the European vacation season, which suggests many market participants – both institutional and corporate – will not yet have had time to react and adjust their investment and hedging strategies. While many investors are now hoping for a bounce in order to establish short EUR positions, or buy forward USD, we suspect 1.5000 will be a struggle in the absence of a further stock market plunge or a disastrous US non-farm payrolls number (due September 5). * Danica Hampton is BNZ’s Currency Strategist. All of the research produced by the BNZ Markets team of economists is available here.