Opinion: How US-Russia tensions boosted the Kiwi over 72USc

By BNZ Currency Strategist Danica Hampton The NZD/USD surged higher last night, underpinned by the broadly weaker USD. The USD came under heavy selling pressure last night as escalating tensions between Russia and the US saw crude oil prices surge nearly 5%, from around US$115 to US$121.60/barrel. Russia said it would respond with more than a just diplomatic protest, if the US strikes a deal to put a missile defence station in Poland, raising the threat of supply disruption from the energy producer. Against a weaker USD, EUR/USD surged from around 1.4680 to nearly 1.4900 and NZD/USD was dragged along for the ride. Stops were triggered following the break above 0.7160 and NZD/USD was squeezed above 0.7200. It is worth noting, that escalating geopolitical tensions can elicit countervailing forces for the NZD. On the one hand, the sharp slide in crude oil prices and a generally weaker USD will provide some support for NZD/USD. But on the other, rising risk aversion tends to encourage selling of risky currencies like NZD in favour of ‘safe-haven’ currencies like JPY. So we’ll need to assess how these countervailing forces play out in the 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. For today, expect NZD/USD to take its cues from changes in USD sentiment. Should the USD weakness continue, and EUR/USD break above 1.4900, this may give NZD/USD enough impetus to push up towards 0.7250. On the downside, initial support is seen around 0.7160. The USD weakened against most of the major currencies last night, weighed down by surging crude oil amid escalating tensions between Russia and the US. Crude oil prices surged nearly 5% last night, from around US$115 to US$121.60/barrel and gold prices climbed to a 10 day high of US$839/oz. Russia said it would respond with more than a just diplomatic protest, if the US strikes a deal to put a missile defence station in Poland, raising the threat of supply disruption from the energy producer. Relations between Russia and the US have already been strained by the recent conflict in Georgia. Despite fairly solid US data (Philadelphia Fed Index came in on expectations while the weekly jobless claims showed some improvement), the surge in crude oil prices triggered a heavy wave of USD selling. EUR/USD surged from around 1.4680 to nearly 1.4900 and USD/JPY sank from around 109.93 to nearly 108.00. The flash estimate for Eurozone manufacturing PMI came in at 47.5 (vs. 47.0 forecast) and the services PMI came in at 48.2 (vs. 48.0 forecast). While the numbers were slightly better than forecast, at below 50, they still suggest activity in these sectors is contracting. Indeed, the risk of a technical recession in the Eurozone are building, although even a technical recession probably would be enough to see the ECB cut rates before Q2 2009. The sharp spike in oil prices, combined with lingering concern about the financial sector, weighed on stock markets. Shares in Lehman Brothers fell 4.3% after the Financial Times reported the bank had unsuccessfully tried to sell a stake to South Korean or Chinese parties. But news that troubled mortgage agencies Freddie Mac and Fannie Mae may receive a cash injection helped revive investor sentiment. The S&P500 is currently up 0.3%. Despite the recent bout of USD weakness, we continue to think the medium-term trend in the USD is higher. While there are signs the US economy is starting to stabilise, it’s become increasingly evident that growth elsewhere in the word is slowing. As further evidence of slowing Eurozone, UK and Japanese growth comes to hand this should help keep the USD buoyant. However, with little in the way of key economic data due out of these economies in the next few days, the USD will likely continue to take its cues from fluctuations in crude oil and global equity markets in the near-term. * Danica Hampton is BNZ’s Currency Strategist. All of the research produced by the BNZ Markets team of economists is available here.