Markets paralysed by Euro uncertainty; US$ gains from safe haven flows

By Mike Burrrowes

NZD

The NZD spent the last 24 hours treading water as markets await the outcome of developments in Greece and Italy (see below). NZD/USD traded inside a 0.7920 to 0.8000 range, currently around 0.7950.

Trading on the NZD crosses has followed a similar pattern. Relative to the EUR, the NZD has oscillated around 0.5770. NZD/GBP showed a little more volatility, trading in a 0.4940 to 0.4980 range, currently around 0.4950. Looking beyond any knee-jerk reactions to European headlines, our working assumption is that the EU rescue package will eventually ease the debt tensions in Europe. Should this occur, we would expect the focus to come back onto the strong domestic recovery in NZ. Given this, we expect NZD/EUR and NZD/GBP to recover to 0.6200 and 0.5300 respectively by the end of the year.

The NZD made some gains against the AUD overnight, rising from 0.7650 to an intra-day high above 0.7700. The move higher was initially aided by softer Australian job advertisements for October (-0.7%, -2.1%P). The move higher was supported by NZ-AU interest rate differentials moving in the NZD’s favour. The NZ-AU 3-year differential is now -90bps, from -94bps at the end of last week. Viewed in isolation, this suggests some upside risk in the cross towards 0.7850.

Looking to the day ahead, with no local data due for release expect the NZD to take its cues from offshore. On the day, support on NZD/USD is eyed at 0.7880 and resistance at 0.8000.

Majors

The performance of the major currencies against the USD was mixed over the past 24 hours. While there was no shortage of headlines from Europe overnight, for now, the FX market remains almost paralysed by the uncertainty.

The ongoing concerns over Europe saw risky assets struggle overnight. The S&P500 and Euro Stoxx 50 both fell almost 0.7%. The VIX index (proxy for risk aversion) has surged from 30.1 to 32.1. The CRB index (broad index of global commodity prices) remained flat overnight as oil and ‘hard’ commodities were better supported. US 10-year government bonds dropped 8bps to 1.98%.

EUR/USD is slightly lower against the USD over the past 24 hours, reflecting ongoing concerns about Greece and Italy. EUR/USD is currently trading around 1.3740. For now, market participants are moving to the sidelines as the ramifications of recent events are very uncertain. The real concern for investors now is whether Italy will need a bailout.

Overnight, Italian 10-year government bonds hit their highest level in 14 years at 6.67%. This level of yields is unsustainable for Italy. The focus now is on Prime Minister Berlusconi and whether his leadership will survive the week. Given he is deeply unpopular, a new government would be seen as a positive in that more fiscal reforms could be implemented.

Developments in Greece were encouraging over the past 24 hours. The Greek Prime Minister Papandreou has agreed to stand down so a coalition government can be formed. An announcement on the new leader of the coalition government is expected in the coming days. The front-runner, at this stage, is former ECB Vice President Loukas Papademos.     

Data out in Europe overnight highlights that the recent crisis is feeding through into broader economy. Eurozone retail sales for September plunged 0.7% (-0.1%m/m expected) and German industrial production for September fell 2.7% (0.9%m/m expected). This is the sharpest decline in industrial output since February 2009.

The CHF was the worst performing currency over the past 24 hours, falling almost 1.9% to 0.9010 against the USD. EUR/CHF is currently 1.2400, from 1.2230 at the beginning of the week. The weakness in the CHF occurred after CPI for October unexpectedly fell (-0.1% vs. 0.2%m/m expected). This follows comments from SNB Chairman Hildebrand over the weekend, noting he was open to taking further measures on the currency.

In the backdrop of muted risk sentiment, the USD has benefited from “safe haven” flows. The USD index rose from 76.90 to 77.10. The risk sensitive AUD/USD fell back to 1.0330, from 1.0360. In Australia today, expect the trade balance back from last month. AU employment data on Thursday will be the data highlight.  

Looking to the night ahead, the focus will surely remain on the European debt crisis. In particular, the focus will be on Italy and tomorrow’s Budget vote in the parliament. This has effectively become a confidence vote for Berlusconi whose support in the House has shrunk in recent weeks to only the barest majority.

Data may briefly grab the markets attention. In the UK, industrial and manufacturing production is due for release. Fed members Kocherlakota and Plosser are due top speak overnight. Both are considered hawks among the voting members.            

Mike Burrowes is part of the BNZ research team. 

All its research is available here.