Euro fears and weak US data have markets taking cover. NZ$ falls overnight on risk aversion.

By Kymberly Martin

The NZD was pressured overnight as global risk appetite and commodity prices fell. It traded down from around 0.8240 to below 0.8180 this morning.

Yesterday’s domestic data showed world prices for NZ’s primary export products rose 0.3% in May, pushing up to another record high. World prices are now 24% higher than a year ago. NZ’s terms of trade also improved by 0.9%q/q in Q1. However overnight the ongoing improvement in the domestic economy was overshadowed by a deteriorating global backdrop. Our risk appetite index (scale 0-100%) fell from 70% to 64% and equity and commodity prices fell 1-2%.

Against this backdrop the NZD and AUD were both under pressure overnight. The NZD/AUD however crept higher from around 0.7650 to above 0.7690. This reclaimed most of the ground lost yesterday afternoon when the AUD surged higher after a “not as bad as feared” release of Q1 GDP (-1.2%q/q).

There are no local data releases today. The NZD/USD will continue to take its direction from global developments. A further deterioration in risk appetite, given developments in European debt markets (see below) would result result in further downward pressure on the NZD/USD. Momentum has recently taken it well above fundamental “fair-value”.

Majors

Risk aversion picked up again on the back of poor US data, falling commodity prices and Moody’s downgrade of Greece’s sovereign rating.  The strongest performing currencies in the past 24 hours were the “safe haven” currencies of CHF and JPY. The USD index also moved up from around 74.50 to almost 74.80.

The VIX index (a proxy for risk aversion) spiked from 16.0 to around 17.7 as US economic data disappointed yet again, compounding fears about the durability of the US recovery. The Chinese manufacturing PMI also dipped to 52.0 in May from 52.9 in April, showing some moderation in growth. The CRB global commodity index has fallen 1%, the WTI oil price is down over 2% and equities indices are down 1-2%.

In the US the ADP employment data came in at 38K (175K expected) while the May ISM manufacturing index fell to 53.5 (57.1 expected). That is the lowest level since September last year. The USD index actually managed to creep up from 74.50 to around 74.70 showing that much negativity is already priced into the currency. In addition, given the rise in general risk aversion, the currency benefited from “safe haven” demand.

The EUR came under pressure in the early hours of the morning as sovereign debt issues returned to focus. Moody’s downgraded Greece to Caa1 from B1, assigning a negative outlook. They believe there is increasing risk Greece will not stabilise its debt position without restructuring, stating “risks imply at least an even chance of default over the rating horizon”. The EUR/USD traded down from around 1.4440 to close to 1.4350.

The GBP also had a difficult night after its manufacturing PMI came in below expectation at 52.1 (54.1 expected) showing that manufacturing momentum is also stalling in the UK economy. The GBP/USD gapped lower from 1.6480 before trading down to below 1.6350.

In the day ahead all eyes will remain on any developments in European sovereign debt markets, in the absence of vital data releases.

Fixed Interest Markets

It was a relatively quiet day in NZ interest rate markets yesterday with greater activity overnight from the US market, where US 10-year yields have broken lower.

NZ swap curves were virtually unchanged yesterday. However yesterday’s release of RBNZ lending data showed that the shift to floating rate mortgages in April continued at a rapid rate. The proportion of the banking system’s mortgage book that is fixed for 2-years or more is down to about 5%. At this rate the vast majority will be on floating or very short-term mortgages by the end of the year when the market anticipates the RBNZ will hike rates. There is therefore a great vulnerability to changes in the OCR rate. Moves up in swap rates, when they do occur, therefore, could be abrupt.

There was very little movement in NZ bond markets yesterday with yields inching a little higher with the biggest move of about 4bps from 13s. The yield on 21s is now around 5.1% but it remains vulnerable to downward pressure given developments in the US overnight.

Overnight US 10-year yields broke below 3.0% after very weak employment and ISM data and ongoing wrangling over the US debt ceiling. The first vote to increase the Government’s $1,4300b borrowing limit failed in the Republican-controlled House of Representatives. Such stalling is largely seen as designed to show an increase in the debt ceiling will not be approved without accompanying spending cuts.  August is the deadline for when there would be a forced stop of US debt payments if the ceiling is not raised.

As US 10-year yields are now trading as low as 2.96%, we expect downward pressure on NZ long yields will continue today. Also keep an eye out for the DMO auction where a mere $200m of 19s is on offer.

See our interactive swap rates charts here and bond rate charts here.

Mike Jones and Kymberly Martin are part of the BNZ research team. 

All its research is available here.