Opinion: NZ$ weak ahead of OCR announcement

Strong gains in the GBP initially kept the USD under pressure following some relatively hawkish comments from the BoE's Sentence. As GBP/USD pushed up towards 1.6210, NZD/USD was squeezed up to 0.7100. However, with risk appetite again faltering later in the night, the USD enjoyed a bit more broad-based support, and NZD/USD slumped back towards 0.7040. Stock markets around the world posted modest losses (the S&P500 is currently down 0.5%). And unconfirmed reports circulated that Chinese regulators have ordered banks to call back some loans, adding to fears tightening monetary conditions could dampen Chinese growth. At 47.5%, our risk appetite index (which has a scale of 0-100%) is now below the long-run average of 50%. It's a fairly stacked line-up in terms of near-term event risk for the NZD. The latest FOMC policy announcement kicks things off this morning at 8:15am. Shortly after, all eyes will be on the RBNZ's OCR review at 9am. We think RBNZ Governor Alan Bollard has every reason to simply reiterate the messages of the December MPS "“ suggesting a gradual recovery remains on track, implying policy rate increases beginning around the middle of this year (as remains our core view). Such a statement would likely add a bit more weight on the NZD, given markets are still pricing a decent chance of earlier tightenings. The USD edged higher against most of the major currencies last night. Still, currency markets are pretty much treading water ahead of today's FOMC meeting and Obama's State of the Union address. Strong gains in GBP were the feature of the early part of the night. Investors shrugged off the relatively lacklustre CBI January retail sales report and instead focused on hawkish comments from Bank of England policy maker Sentance. Sentance said it may be difficult to keep inflation on target if import and services prices keep rising. The comments were interpreted as signalling an end to the BOE's quantitative easing program, and sent GBP/USD from 1.6140 to nearly 1.6240. While the stronger GBP kept the USD under pressure early in the night, the USD soon found more "˜safe-haven' support from a weakening in risk appetite. Markets were a little rattled by yesterday's reports of North and South Korea exchanging artillery fire. In addition, ICBC "“ China's largest bank "“ said it had stopped rolling over some loans, adding to fears a slowing in Chinese credit growth could derail growth in the region. The VIX index (an index of volatility of the S&P500, commonly used as a proxy for risk aversion) rose as high as 25.5%, from around 23% the previous day. The generally pessimistic mood wasn't helped by a dour day in global stock markets. The S&P500 is currently down around 0.5%. Boeing and Caterpillar reported better-than-expected Q4 earnings but were a little cautious on the outlook for 2010. Surprisingly weak US home sales also weighed (-7.6%m/m in December vs. +3% expected). Against the generally firmer USD, EUR/USD eventually hit a 6-month low around 1.4020. Not only did German CPI come in below expectations in January (-0.6%m/m vs. 0.3% expected), but already heightened European sovereign solvency fears were stoked further. The European Commission suggested Greece hasn't done enough to contain its budget deficit and commentator Nouriel Roubini said Spain is a looming threat to the Euro region. The next two big hurdles for currency markets and the USD are this morning's FOMC policy announcement (8:15am) and US President Obama's State of the Union address later today (3pm). The FOMC is widely expected to leave interest rates near zero and reiterate its pledge to keep rates low for "an extended period". A reminder of such may well see the USD pare some of its recent gains. In the short-term, support on the USD index is seen towards 78.10, while resistance is expected on bounces towards 79.40. * Mike Jones is a BNZ Currency Strategist. All of the research produced by the BNZ Capital team of economists is available here.