Confusion over future direction of US Fed's quantitative easing; Moody's cuts Portugal

By Kymberly Martin

The NZD/USD was choppy overnight trading between 0.7680 and 0.7720, currently at the bottom of this range.

It was a relatively stable night in terms of risk appetite with equity markets largely flat, but the USD was whipped around by a weak ISM data release. The CRB commodity index broke out to a new high above 363, a level last seen in September 2008. Fonterra’s milk auction held overnight showed an average 2.4% fall from the previous auction, although prices remain at elevated levels, 19% above November last year.

Yesterday’s QSBO business confidence survey was subdued as was expected post the Christchurch earthquake, but readings were consistent with our view that the economy is growing around 0.3% a quarter in H1 2011.

Inflation indicators were a little weaker than we anticipated although medium term inflation remains on the radar. There was nothing in the survey to alter our view of a gradual growth recovery this year, and rising inflationary pressures leading to the RBNZ removing its “emergency” rate cut at the end of the year. In the near term, as the NZD/USD continues to trade above our fundamental “fair-value” (0.7100-0.7300) it remains vulnerable to any deterioration in risk appetite from current robust levels.

The NZD drifted gently lower versus the AUD from 0.7460 to around 0.7430. The AUD showed little reaction to the widely expected decision by the RBA to keep rates on hold at 4.75%, with their statement suggesting they will remain firmly on hold over coming months. The NZD was weaker versus its European peers as the EUR benefited from USD weakness, and the GBP was the night’s strongest performer being boosted by a much higher than expected services PMI release (57.1 vs. 52.6 expected).

The NZD/GBP subsided from 0.4760 to 0.4720. There is little local data over the remainder of the week. Currency markets will focus on the universally expected decision by the ECB to raise rates by 25bp on Thursday, as it will mark the first heavyweight central bank to tighten policy since the onset of the global financial crisis, and point the way to eventual increases in the UK and the US.

Majors

The USD fell overnight on the back of disappointing ISM data, while the GBP was the star performer, up almost 1% over the past 24hours, with the JPY the laggard. It was another night of consolidating risk appetite with a slight fall in the VIX index (a proxy for risk aversion) to around 16.8% and relatively flat equity markets.

Overnight, Fed minutes showed a wide debate amongst policy makers last month as to the path of monetary stimulus after the completion of the $600bn bond-purchase program. The decision to continue purchases was unanimous, although a few members highlighted evidence of a stronger recovery and higher inflation and inflation expectations as a concern. The more significant driver of the USD was the release of the ISM non manufacturing index at 57.3 (59.5 expected) that saw the USD index decline from around 76.100 to around 75.800.

The EUR was the key beneficiary of the moves in USD early this morning rising from around 1.4160 to 1.4220. Earlier in the evening, the currency had been on a downward trajectory after the Eurozone March composite PMI came in close to expectation at 57.6 but Feb retail sales data was weak at -0.1%m/m (0.1% expected).

Moody’s cut Portugal’s long-term government bond rating by one notch from A3 to Baa1 and placed it on review for a further possible downgrade, although this still kept its ratings above the recent downgrades from Fitch and S&P.

The Portuguese 10 year bond yield broke above 10%, as expectations of a bailout rise, higher yields than seen for Ireland when it was bailed out in November. “Safe haven” currencies, JPY and CHF were the two weakest performers over the past 24 hours, with the USD/JPY rising to 84.80, well off the Japanese crisis low of 78.90. The AUD gently weakened yesterday from recent 29 year highs to around 1.0340, showing little reaction to the widely anticipated decision by the RBA to hold rates at 4.75%.

The GBP was the standout performer overnight rising from around 1.6100 to 1.6280 after the services PMI came in well above expectation at 57.1 (52.6 expected), the highest level since Feb 2010. The data may modestly boost the case of the ‘hawks’ as the services component of the economy shows signs of recovery even as the consumer sector is much weaker.

All eyes will now be on the BoE and ECB rate announcements on Thursday, while today we receive Eurozone Q4 GDP and US mortgage applications.

Kymberly Martin is part of the BNZ research team. 

All its research is available here.