fxmatters

It seems the currency markets are evenly poised, participants worried about a reducing interest rate advantage in NZ and Australia but unexcited by opportunities offshore. The week ahead may do little to shape opinions either way with little major events scheduled.

The same cannot be said for the first two weeks of September: there is the likely RBA rate cut plus a stream of Australian data releases; there are central bank decisions and statements to come out of Europe and Canada; there are the usual early month US economic statistics; and then our own RBNZ will announce on local interest rates 11-Sep (see central bank schedule).

The two major driving forces in the next couple of weeks appear opposite.

The first is likely selling of the NZD and AUD heading into their respective cash rate cuts, the typical pattern before such announcements.

The second is the USD itself appears to have exhausted its rally and is more at risk of weakening again (hence creating upward pressure on the NZD and AUD). Interestingly this type of choppy major currency pattern has meant the fx trending models used by the world’s largest currency hedge have been of little use. The International Foreign Exchange Concepts “Developed Markets Currency” fund dropped 5% in the first seven months of 2008, leading fund head John Taylor to observe “It’s become much harder to make money on the majors … they are not totally random, but it’s damn near.” (He did very well with other currencies mind you – see Bloomberg)

The net effect is the NZD may well remain above 70c for a while yet but possibly weaken against the EUR near-term. Over the next few months, though, the case for a weaker NZD across the board remains strong given the lack of local growth and little prospect of a quick economic turnaround.

The NZD kicked the global trend last week, rising 0.2% against the USD and returning to above US$0.7 and A$0.8 in the process. As a comparison, the EUR/USD was down 2.1% and the AUD/USD down 2.5%.

The first point to note is news is still accumulating about the weak NZ economy and the anticipation of rate cuts will probably build as we move into the 11-Sep RBNZ Statement. Expect some NZD weakness early September.

What happens in between time, and in particular how high the NZD reaches, will most likely depend on international trends.

Three points suggest some caution above simply extrapolating the recent USD strength: August is a month of thin volumes as northerners holiday; the market is still increasing its pricing of risk for US banks, not a trend that encourages confidence about the US economy and hence the USD; and the rapid narrowing of the gap between European and US interest rates has stalled (and maybe ended for now).

The chance of a weaker USD suggests placing sell orders for the NZD around a couple of cents higher, say above US$0.72 and A$0.83.

Last week was not a good week for Australia, and I am not referring to Eden Park. The AUD was weakest of 38 currencies monitored here. That has not been the case in a long time. Part of issue is the recent peaking of commodity prices. More significantly the market is now focusing on the next move by the RBA being an easing (see interest rate futures), possibly as early as September (but not this week, surely?).

Now this is great news for NZ exporters – if the NZD is to reach generally low levels it will most likely require a weak AUD also. The problem is, at least as I see it, that things are not all bad across the Tasman. Confidence levels are down sharply but export prices remain extraordinarily high. The monthly Australian employment figures released this week (see calendar) are likely to show continued job growth and low unemployment. The market appears to be getting a little ahead of itself expecting the RBA to ease soon with labour markets tight and inflation above 4%. This suggests a choppy AUD in the weeks ahead, rather than a one-way fall.

The short of it for the NZD is maybe we get to see the NZD/AUD run back up towards 80c now but longer-term the NZD/AUD looks set to trend lower yet. We may also get to see the NZD/USD push towards 70c but don’t be too confident of a shift down in the 60s just yet.