Risk-off sentiment hits Kiwi and Aussie despite the data
- The global selloff has prompted traders to seek refuge in the safety of USD
- This has hit AUD and NZD - despite their underlying strength
- The Achilles' heal for NZDUSD remains the gloomy inflation outlook
By Max McKegg
Market commentators are scratching their heads trying to come up with an explanation for the selloff in financial markets over the last couple of days.
Making sense of it all is more difficult when you have stock, bond and commodity prices dropping at the same time. But traders can’t wait around for analysts to tell them why something is happening: they have to react on the spot.
And so they have over the last 24 hours, seeking refuge in the traditional safety of the USD. On the other side of the coin the biggest losers have been the high-beta currencies like the Australian and New Zealand dollars.
It would be ironic if the Aussie and Kiwi were to sell off at a time when data releases show their economies are outperforming G10 counterparts by a big margin while at the same time offering world-beating interest rates. Consider this chart of GDP growth rates:
Source: Bank of New Zealand
And this one of government bond yields:
Tomorrow we well get confirmation New Zealand’s economy is firing on all cylinders when the second quarter GDP data is released.
Economists predict growth between 1%-1.2% for the quarter, or a year-on-year increase of about 3.7%. Rising immigration will be one reason given for this impressive result but even on a per capita basis growth is running close to 1% per annum.
But the good news story is already built into the Kiwi dollar and the GDP data will probably be as good as it gets.
The Achilles' heal for NZDUSD is the gloomy inflation outlook and the determination of the Reserve Bank of New Zealand to do something about it.
And so, despite the above-potential growth rate, the RBNZ is widely expected to announce a cut in the official cash rate to 1.75% in its November Monetary Policy Statement.
Indeed, money market pricing suggests a 10% chance this will be front-loaded to next Thursday’s preliminary review, a few hours after the US Federal Reserve meeting winds up.
Why would the bank be thinking of cutting rates when, if anything, they should be trying to stay ahead off the potentially inflationary effects of above trend growth?
Simply because the third quarter inflation number, due for release on October 18, now looks like being a negative number according to a number of economists, dragging the annual inflation rate back down to zero.
Yesterday’s better-than-expected food price increase suggests the RBNZ’s own forecast of a small positive CPI number for the quarter will be closer to the mark but, either way, the numbers will do nothing to lift inflation expectations among consumers, business or the financial markets.
No one is in any doubt as to why sub-par inflation is coinciding with strong economic growth: it’s the exchange rate, stupid!
That’s why the RBNZ has no choice but to cut its policy rate and hope the Kiwi dollar falls in sympathy.
No doubt they would catch traders out, and therefore get more bang for their buck, if they acted next week rather than waiting until November, but forward guidance suggests the patient approach is likely to prevail.
Of course, RBNZ governor Graeme Wheeler will have his fingers crossed that the Federal Open Market Committee will pull a rabbit out of the hat for him with a rate surprise of their own next week but that’s wishful thinking.
A better bet would be that the risk-off sentiment of the last few days takes a firm hold of financial markets and maintains downward pressure on high-beta crosses like NZDUSD.
Also on Thursday we will get some potentially market moving data out of Australia. Money markets are pricing is an 80% chance the Reserve Bank of Australia will cut its policy rate to 1.25% in the next 12 months with the state of the labour market being a key driver.
The August employment report is expected to show 15,000 new jobs created over the month, about the amount needed to keep the unemployment rate steady at 5.7%.
A number well above consensus will be required to make a dent in the unemployment rate and reduce the odds of a rate cut. Stranger things have happened: Australia’s labor force statistics can be volatile.
Meanwhile the AUDUSD remains in a medium term downtrend (see my trade view) as shown in the chart below (click to enlarge)
AUDUSD yearly chart
-- Edited by Adam Courtenay
Max McKegg is managing director of Technical Research Limited. If you would like an email notice each time Max posts a trade, then click here to follow him.