Opinion: Hedge fund liquidation helps boost Kiwi$

By BNZ Currency Strategist Danica Hampton The NZD/USD extended its recovery last night, climbing from around 0.5500 yesterday morning to 0.5900. Globally, we've seen a recovery in equity markets, easing risk aversion and round of central bank rate cuts. The Fed cut rates 50bps to 1.0%, China cut its benchmark lending rate 27bps to 6.66% and Norway cut rates 50bps to 4.75%. Meantime, the IMF stepped up with a larger than expected US$25.1b rescue package for Hungary. Against this backdrop, market participants have been taking profits on short JPY positions. Not only have we seen USD/JPY rebound strongly from yesterday's 92.50 low, but NZD/JPY has climbed from 54.50 to above 57.50. Heavy USD selling (reportedly related to the liquidation of a hedge fund) was also noted last night, which combined with NZD/JPY demand helped push NZD/USD up to its overnight night of 0.5900. Extreme uncertainty about the global outlook is causing dramatic volatility across all asset classes. The NZD/USD is no exception. While this uncertainty remains, expect the NZD/USD to continue taking its cues from global equity markets and the volatility to persist. For today, the recovery in equity markets and risk appetite should continue to underpin the local currency. And the NZD/USD has the potential to be squeezed up towards 0.6000 in the near-term. However, we'd caution against getting overly bullish towards the NZD/USD. While the recent central bank rate cuts are encouraging, they will not be enough to prevent a global recession. Worries about a global recession and global de-leveraging flows should support USD over coming months. Nor should we forget, as a commodity exporting nation the fortunes of NZ and the NZD are inherently tied to global growth. Yesterday's trade deficit (which blew out to NZ$1183m "“ its largest since November 2005) illustrated the strain NZ exports are under. Financial markets were characterised by recovering equity markets, easing risk aversion and a generally weaker USD last night. Hopes that interest rate cuts will help bolster the global economy appears to have boosted investor confidence a bit. Not only did China cut its benchmark lending rate 27bps to 6.66% and Norway cut rates 50bps to 4.75%, but the Fed cut interest rates 50bps to 1.00% and left the door open to further rate cuts by saying "downside risks to growth remain". A larger than expected IMF bailout package for Hungary also helped shore up confidence in emerging markets. The IMF confirmed a US$25.1b deal with Hungary, and this helped spur a rally in emerging market equities and currencies. However, ongoing weakness in emerging European bonds continues to keep traders a little cautious towards EUR. Coming on the back of yesterday's monster rally in US equity markets "“ where the S&P500 surged 10.8% - we saw a strong rebound in Asian and European equities. The Nikkei climbed 7.7%, the FTSE rose 8.05% and the S&P500 is currently up 2.59%. The backdrop of recovering global equities and risk appetite (combined with the possibility Japanese authorities may take action to weaken the JPY) has encouraged profit-taking on short JPY cross positions. Over the past two days, EUR/JPY has climbed from below 114.50 to above 127.00 and USD/JPY has surged from around 92.50 to above 99.50. However, heavy USD selling (rumoured to be related to the liquidation of a hedge fund) also provided a bit of a prop for EUR/USD and GBP/USD last night. While we have seen a bit of improvement in risk appetite and equity markets over the past two days, nothing on the economic front has really changed. The recent round of central bank interest rate cuts is encouraging, but it will not be enough to prevent a global recession. While currency intervention may help slow the appreciation in JPY and USD, solo intervention attempts will not be enough to dislodge medium-term currency trends. We think worries about a global recession will continue to plague financial markets and suspect global de-leveraging flows will likely continue to support the USD and JPY over coming months. * Danica Hampton is BNZ's Currency Strategist. All of the research produced by the BNZ Markets team of economists is available here.