Opinion: Kiwi off 6 month high as sentiment weakens

By Danica Hampton It was a strong start to the week for the NZD/USD. Optimism about the global recovery encouraged short-term speculative players and leverage accounts to pile into growth sensitive currencies like NZD. The convincing break above 0.6000 forced a number of more macro-driven accounts to exit "short" NZD positions and NZD/USD was squeezed to a six month high above 0.6100. However, the NZD/USD strength didn't last. After rebounding about 40% over the past two months, profit-taking saw global equities slip lower last night. News that General Motors would likely file for bankruptcy and that three US banks were planning to sell stock to repay the funds borrowed from the US government took a toll. Articles from the WSJ (warning that stocks no longer look cheap) and UK Telegraph (cautioning about bear market rallies) did little to help equity market sentiment. European equities fell about 1% and the S&P500 is currently down 2.1%. The slide lower in global equities triggered a wave of profit-taking on short USD positions. Against a generally firmer USD and reduced appetite for risk, NZD/USD skidded from above 0.6100 to below 0.6020. As a growth sensitive currency, the near-term fortunes of the NZD/USD will depend greatly on how global sentiment unfolds. While some "green shoots" are evident in the global economy, we think equity markets and investors have become overly optimistic about the timing and strength of the global recovery. We are sceptical about equity markets' ability to hold on to recent gains in the face of higher global bond yields and think a reality check is past due. From a fundamental perspective, we think NZD/USD looks over-stretched above 0.6000 and if global sentiment continues to crumble we'd expect to see a deeper correction in NZD/USD. For today, we suspect NZD/USD will find headwinds towards 0.6075. Initial support is seen ahead of 0.5985, but a break below this level will open up a deeper correction towards the 200-day moving average of 0.5870. The USD firmed against most major currencies last night as global equities faltered and investors reconsidered their upbeat view on the global recovery. Global equity markets slipped last night, weighed down by profit taking after the strong rebound seen over the past two months. Articles from the WSJ (warning that stocks no longer look cheap on a valuation basis) and UK Telegraph (cautioning that this is just the sucker's rally before crashing back down to earth) did little to help equity sentiment. News that three US banks were planning to sell stock to repay funds from the US government also cooled interest in the financial sector. And it's looking increasingly likely that General Motors will file for bankruptcy. The S&P Financial Index fell 5.2% and the S&P500 is currently down 2.1%. After sinking to a 4-month low of 82.30 yesterday morning, the USD Index rebounded to around 82.80 last night as investors trimmed back short USD positions. Against a generally firmer USD, EUR/USD slipped from above 1.3660 to around 1.3560. EUR sentiment wasn't helped by data showing a sharper than expected decline in industrial production in France (-1.4%m/m vs. -0.5% forecast) and Italy (-4.6%m/m vs. -2% forecast). Indeed, this week's release of European Q1 GDP data is expected to be terrible. German GDP is expected to have contracted 3.0% in Q1 "“ that's a whole lot worse than the -1.5%q/q estimate for the UK and the -1.6%q/q estimate for the US. GDP for the whole Eurozone region is expected to have fallen 2.1% in Q1, leaving the region on track for annual growth to contract 3.8-4.0% in 2009. While there are signs of "green shoots", we think equity markets have become overly optimistic about the timing and strength of the global recovery. Analysts' US earnings estimates for 2010 centre on 30%, which looks a little heroic given US growth will likely remain sub-trend for a considerable period of time. Nor should you overlook the sharp increase we've seen in longer dated bond yields "“ the rising cost of capital is another threat to equity prices. All in all, it's about time global equity markets realised the emperor isn't wearing any clothes. Any faltering in global equities and risk appetite will likely take a toll on growth sensitive currencies like NZD and AUD and prove supportive for "˜safe haven' currencies like the USD and JPY. Should this week's US and European data highlight the ongoing difficulties in the global economy, this will likely add to the case for a firmer USD. ____________ * Danica Hampton is BNZ's Currency Strategist. All of the research produced by the BNZ Markets team of economists is available here.