NZD: Still chasing yield? - Rabobank

Jane Foley, Research Analyst at Rabobank, suggests that within the context of the G10 FX environment, the AUD and the NZD represent the high yield assets and since the results of the UK’s Brexit referendum were published on June 24, these have been the two best performing currencies relative to their peers.

Key Quotes

“In past years when market tension increased the values of the AUD and the NZD fell vs. the USD. Both Australia and New Zealand are commodities exporters, they also have current account deficits. Previously these factors made them vulnerable to selling pressure when levels of market anxiety rose and investors moved back into safe haven assets.

In the past when the AUD and NZD were performing poorly it was often the case that currencies such as the CHF and the JPY were finding support. AUD/JPY has been a classic safe carry trade in recent years but historically the carry trade has only worked efficiently when general levels of risk appetite were strong. Since the results of the UK Brexit referendum, the value of the AUD and the NZD has risen in tandem with the yen, which is the third best performing G10 currency in this time-frame. The implication is that the extremely low interest rate environment has meant that the AUD and the NZD are seeing little respite from yield seekers. This is a factor which could result in more aggressive rate cuts from both the RBA and the RBNZ than is currently priced-in.

We are expecting the RBNZ to cut rates by another 25 bps at the August 10 policy meeting. The RBNZ may be reluctant to fan the fuels of the property market, but weak CPI inflation and wage inflation combined with the resilience of the NZD suggest that the RBNZ could cut aggressively in the months ahead.

Although there are signs that that dairy prices may finally be turning higher, a record number of cows were slaughtered in the 3 mths to June according to Statistics New Zealand (up 11% y/y) which illustrates the pressure in this key sector. A moderation in migration numbers from the late 2015 peak may also suggest that some more of the fuel under economic growth and wage growth has begun to taper.

The RBNZ has been very candid regarding its warnings of further easing. In June it warned that “further policy easing may be required” and in its policy update in July it repeated that easing was a strong possibility. Partly in order to deter the attraction of the carry trade, following a move in June, there is scope for the RBNZ to cut rates potentially twice move this year. We see scope for NZD/USD to 0.67 on a 12 mth view, though this assumes a December rate hike from the Federal Reserve.”