US equities up again and testing the highs of the year, although bonds have been largely unmoved; GBP remains very volatile; NZ rates had another sizable decline yesterday; NZD is down 0.2% over the past 24 hours to 0.6845

By Nick Smyth

Risk sentiment remains positive, with US equities up again and testing the highs of the year, although bonds have been largely unmoved.  The GBP remains very volatile, and has bounced back strongly ahead of the UK parliamentary vote later this morning on whether to rule out leaving the EU without a deal on March 29th  – it should easily pass.   NZ rates had another sizable decline yesterday, following similar moves in Australia after weak consumer confidence data, and the 10 year swap has reached a record low. 

Markets are again trading with a risk-on tone.  US equities have extended their gains from earlier this week and are back testing the highs this year.  Both the S&P500 and NASDAQ are up almost 1%, with the former breaking above the key 2,800 level.  It’s difficult to identify the catalyst for the moves overnight, although stronger durable goods data may have been one factor.  There hasn’t been any major news on the trade front, although market participants are generally optimistic that a US-China trade deal can be secured over the next few months. 

US durable goods orders beat expectations in January while core capital goods orders, a proxy for investment, bounced back strongly after two previous months of declines.  The Atlanta Fed’s GDPNow estimate for Q1 was raised slightly from 0.2% to 0.4% after the data.  US PPI data was marginally below expectations but had little market impact, given the more important CPI data had been released yesterday. 

US Treasury yields have been largely unmoved despite the rally in equity markets, more positive economic data and a 4bp increase in UK gilt yields (on more positive Brexit mood music – more below).  The 10 year Treasury yield reached a low of 2.59% yesterday morning after the CPI release, and it has recovered only modestly to 2.61% overnight.  Treasury yields are right at the bottom of their recent, narrow trading range, and we suspect they won’t move too far ahead of the FOMC meeting next Thursday.  The market will be focused on the Fed’s so-called ‘dot plot’, which contains members interest rate forecasts.  At the December FOMC meeting, the median Fed forecast showed two hikes in 2019 and one in 2020, although those preceded the Fed’s U-turn in January when it said that it would be “patient”.  It’s quite possible the median Fed forecast shows no further rate hikes over the next few years, which would validate current market pricing. 

The GBP has again been the big mover in currency markets, rising more than 1% to 1.32.  Theresa May’s Brexit deal was voted down yesterday morning, as expected, by a margin of 149 votes.  The next step in the process is a parliamentary vote this morning (around 8am) on whether to rule out the UK leaving the EU without a deal on March 29th – it should pass easily.  Then tomorrow morning, there should be a vote on whether the UK extends article 50, which is again almost certain to pass.  Chancellor Hammond called for compromise among political parties to break the deadlock while Brexit supporting minister Michael Gove suggested that there may be an opportunity to have ‘indicative votes’ on various options tomorrow.  The ‘indicative votes’ route is seen as one way to identify a solution to Brexit that can achieve a parliamentary majority, with options ranging from the UK joining the Customs Union (the Labour party’s proposal), a second referendum, or a Canada-style free trade agreement.  With parliament taking control of the process and the majority of MPs supporting a soft Brexit, we think there is scope for the GBP to make further gains in due course. 

Movements in other major currencies have been much more muted.  The EUR is up 0.2% to 1.13, benefiting from the appreciation in the GBP and stronger than expected industrial production data.  The Kiel Institute for the World Economy, a German think-tank, cut its German growth forecast for this year from 1.8% to 1%, citing the weak start to the year by industry alongside trade conflict and uncertainty over China.  Interestingly, its quantitative analysis suggested that one-off factors, such as the change in emissions standards that affected auto production and water shortages in the Rhine that affected chemicals output, cut German growth by 0.5% in each of the last two quarters of last year. 

The NZD is down 0.2% over the past 24 hours to 0.6845, leaving it at the bottom of the currency leader-board, just ahead of the AUD.  The mild underperformance overnight should be seen in the context of recent NZD gains on the crosses, with NZD/AUD, NZD/EUR and NZD/JPY at or near their highs of the year.  NZD/AUD has slipped back to 0.9670 despite a weak Australian consumer confidence release, which fell almost 5% to its lowest level since September 2017.  It follows a similarly disappointing NAB Business survey released the day before. 

Australian rates fell sharply yesterday as a result of the Australian consumer confidence release and the overnight move in US Treasury yields.  Australian 3 and 10 year bond yields fell 6.5 and 7bps respectively, with the latter breaking below 2%.  The market has moved to almost fully-price two rate cuts from the RBA by mid-next year. 

That move in Australian rates cascaded to the NZ curve, with the 5 year swap rate falling 3bps and the 10 year swap falling 4bps to a record low of 2.3375%.  The market is back to pricing almost a full rate cut by February next year by the RBNZ, despite some clear differences in the macroeconomic environments in NZ and Australia (notably housing).  The market paid no attention (as usual) to NZ food price data, but it was strong enough for us to raise our Q1 CPI forecast to 0.4% (1.8% year-on-year), above the RBNZ’s 0.2% forecast.  The market’s more immediate focus however is GDP which is released next Thursday.  

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