Equity market carnage; volatility the winner as VIX hits highest point since 2011; NZD rally bizarre as it is trumping JPY & CHF in a skittish market

By Raiko Shareef

NZ Dollar

Bizarrely, the NZD is the best performing major currency overnight, and the only one to trump safe-havens JPY and CHF in what is an extremely skittish market. NZD/USD is 1.5% stronger at 0.7960.

Sure, the 1.4% bounce in the GlobalDairyTrade will come as a relief to any NZD bulls still out there, not to mention dairy farmers themselves. After a near-50% decline in prices since February, this will be a sight for sore eyes.

And sure, the push-back in Fed Funds expectations will make NZ’s interest rate advantage look attractive once again, inviting the carry-trade investor flow that pushed NZD/USD to 0.88 four months ago.

But consider us extremely sceptical of the idea that NZD can sustainably outperform in a pessimistic market. We scratched our heads as NZD held its ground while AUD slid in the early hours of this morning. That saw NZD/AUD briefly pop above 0.91. It remains 0.8% stronger at 0.9070.

We consider the downside risks to NZD here much sharper than any upside. The rejection of 0.80 helps that view, and the spike in market volatility will strongly discourage any carry trade play in the near-term.

We continue to eye 0.80 as initial resistance, and mark 0.7850 as support.

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Majors

Carnage. Currency markets saw violent moves overnight, with the USD nursing losses overall. The broad Bloomberg Dollar Spot Index is 0.50% weaker, but that doesn’t do justice to the eye-popping price action. Try EUR and JPY gaining 2.0% against the USD in the space of two hours, before paring those gains to settle about 1.0% higher.

Somewhat unfairly, poor US retail sales data are being pointed to as the catalyst. Headline retail sales fell by 0.3% in September, against a 0.1% gain expected. Core sales (excluding auto and gas) fell by 0.1%, when the market was picking a 0.4% gain. The NY Fed’s Empire manufacturing index had a shocker earlier in the evening, dropping from +27.5 to +6.2. A much milder fall to 20.3 was expected.

But even those weak outturns, in isolation, cannot justify the panic evident in markets overnight. Rather, the sharp squeeze likely reflects a scramble to jump out of long USD positions, as Fed Funds Rate hike expectations get pushed back. It was only recently that the same investors were scrambling to jump into long USD positions. The only winner in this situation is volatility. The VIX volatility index broke above 30.0 overnight, its highest since 2011.

The wildcard amidst this concern about a global growth slowdown is the headlines being made by the spread of Ebola. These simply play with the grain of already-frayed investor nerves, and are having a direct impact on equity markets, via aviation. Benchmark equity indices were hammered overnight, with the S&P 500 losing 2.0%, and the Euro Stoxx 50 off by 3.6%.

One of the only bright spots overnight was the UK, where the labour market posted a robust gain. The unemployment rate fell from 6.1% to 5.9%, beating expectation of a milder fall to 6.0%. But this was lost in the panic later on, and the GBP is one of the weakest performers in the G10, having pared back most of its gains. It sits 0.1% stronger against the USD at 1.5930.

For ours, while we wouldn’t want to try catch a falling knife, we think the panic is overblown, especially around talk of US economic weakness. This is still a US economy that is adding 200k+ jobs every month. We retain a core bullish view on the USD over the next 12 months.

Today, investors will be on the lookout for further signs of global weakness. We’d pick euro-zone final CPI and the swathe of US data releases as likely flashpoints.

All its research is available here.