Kiwi$ to extend highs vs euro as NZ economy outperforms Eurozone, NZ rates rise; Brazil imposes more currency controls

By Mike Jones

The NZD has spent the past 24 hours trapped in a relatively tight 0.7550-0.7600 range.

There wasn’t a great deal of new information to influence sentiment in currency markets overnight. The only real development of note was a late strengthening in the USD, triggered by a bout of EUR/USD selling. 

Despite a Chinese €6b pledge of support for Spain, a modest widening in European sovereign bond spreads took a toll on the EUR late in the night. Relatively lacklustre Eurozone retail sales and consumer confidence figures did nothing to help EUR sentiment either. EUR/USD skidded from 1.3120 to around 1.3020, propelling NZD/EUR to within a whisker of Monday’s 0.5850 3½-year high.

We suspect further gains are in the offing for NZD/EUR in coming months. Not only is NZ’s 2011 economic outlook somewhat brighter than that of the Eurozone (we expect annual calendar year growth of 3.2% for NZ, compared to 1.5% for the Eurozone), but a series of interest rate hikes from the RBNZ from around mid-year should further bolster the relative appeal of the NZD.

Last night’s NZD/EUR gains, along with solid NZD/AUD buying from real money and short-term speculative accounts, helped to insulate the NZD/USD from the broad firming in the USD. In fact, the NZD/USD ended the night as the strongest performing currency amongst the G10.

Looking ahead, there are no local events to watch out for until Monday morning’s merchandise trade figures. As a result, direction for the NZD will continue to come from offshore in the short-term. In particular, the relative strength of tonight’s US employment figures will be an important test of whether the nascent uptrend in the USD can be sustained. Near-term support on NZD/USD is eyed on dips towards 0.7530, and then 0.7480. Initial headwinds are expected on rallies towards 0.7600.

Majors

Currency markets struggled for direction overnight. Investors were generally content to stick to the sidelines ahead of tonight’s all-important US non-farm payrolls employment report.

The USD ended the night stronger relative to most of the major currencies, largely thanks to a late bout of EUR/USD selling.

Early in the night, the EUR received a boost from Spanish newspaper reports China had pledged €6b to buy Spanish government bonds as part of a wider programme to do its bit for the European sovereign debt crisis. 

But it wasn’t long before the EUR/USD was again heading lower. Not only was last night’s European data a touch disappointing (Eurozone retail sales and consumer confidence undershot expectations), but a widening in sovereign bond spreads also weighed.

The spread between Spanish and Portuguese 10-year bonds and their German equivalent widened 20bps to 255bps and 400bps respectively. It seems investors are nervous about rising yields as markets face an onslaught of sovereign (particularly Spanish) bond issuance in coming weeks. From above 1.3150, EUR/USD ended the night closer to 1.3020.

Last night’s UK PMI services index fell sharply, to 49.7 (52.8 expected) – the lowest reading since April 2009. The knee-jerk reaction saw GBP/USD dive from above 1.5560 to below 1.5500, before recovering slightly as investors deduced December’s poor weather meant the weakness was probably overstated. Real money selling of EUR/GBP also helped limit the losses in the GBP.

In the latest episode of “the currency wars”, Brazil yesterday launched a fresh set of currency controls in an attempt to limit gains in the BRL. The Brazilian central bank said it will impose reserve requirements on banks holding short USD/BRL positions. USD/BRL climbed 0.8% to around 1.6900 in response.

Looking ahead, whether or not the USD can extend its recent gains will depend on a couple of key events. Tonight’s non-farm payrolls report (+150k jobs expected) will hold important clues as to whether the US labour market is improving in the manner the Fed desires. A result exceeding 200k could provide the impetus for the USD index to break above 80.80 resistance. Fed Chairman Bernanke is also due to testify before the Senate.

Mike Jones is part of the BNZ research team. 

All its research is available here.