SELL NZD/USD – TRADE UPDATE
TOP TRADE
Backing the Fed
We saw an opportunity to short NZD/USD (Sell NZD and Buy USD) ahead of the US Federal Reserve Meeting in October last year, when the NZD was trading above 68 cents versus the USD. Since that time the NZ dollar has traded as low as 64 cents and is currently at the 66 cent level. The most recent leg higher has been a result of USD weakness on the back of diminished market expectations of a Fed rate hike this year. Given our view is that the Fed will still hike in 2016 (albeit at a more gradual pace) we believe this will be the primary driver of USD strength. At the same time the Reserve Bank of New Zealand (RBNZ) has been downbeat and dairy prices continue to come under pressure. These factors should result in further NZD/USD weakness going forward, in our view.
- Over the medium term we believe the US Fed will be the primary driver of the NZD/USD exchange rate
- The most recent leg higher has been a result of USD weakness on the back of diminished market expectations of a Fed rate hike this year, although our view is that the
Fed will still hike in 2016 - The RBNZ has been downbeat and dairy prices continue to come under pressure
- We see fair value of the NZD/USD exchange rate at closer
$0.60
What’s new – All Eyes on the Fed
Over the last few weeks NZ dollar has made gains against the US dollar up to US $0.66
as the US dollar has fallen across the board.
Renewed concerns around global growth this year, a patch of recent soft US economic
data, and cautious comments by US Federal Reserve policymakers have seen the
market move to pricing the chance of a US rate hike this year at much lower levels, with some commentators even calling for a rate cut in the US.
The prospect of higher interest rates in the US has been a driving factor of USD strength
in recent times (as a higher interest rate on USD cash encourages investment into USD)
and given recent developments we have seen the USD drop recently. We believe the
market moves are premature, and while the US Fed is unlikely to raise interest rates in
March, we still expect it to follow a gradual path of higher rates over the course of
2016. A driving factor of the Fed is US employment data, which continues to be
particularly solid and should result in the Fed remaining relatively positive, in our view
At the same time the RBNZ left interest rates on hold at its last meeting, however
Governor Wheeler was more downbeat than at last year’s meeting. We believe interest
rates will remain low for some time in NZ. Further there is more chance that the OCR
goes lower than higher over the medium term. believes that the RBNZ are aware
of any weaknesses in the economy. At this stage the RBNZ do not think a further
lowering of the cash rate is warranted, however should financial conditions continuing
to be challenging, they will respond. This should translate into a weaker currency over
time.
We see fair value of the NZD/USD exchange rate at closer $0.60, and remain very much
of the view that we will see further weakness in the NZ dollar versus the US dollar
Investment Thesis – Why we like it
Following years of strength since 2010, the NZ dollar has finally retraced against the US
dollar and we believe the weakness is set to continue.
The key driver of our bearish view on the NZ dollar is relative interest rates in NZ
compared to the US. Interest rates of a currency essentially illustrate how much return
an investor would receive by holding a currency, and the interest rate differential
between the two currencies is a driver of currency strength (a higher interest rate will
attract currency investors). As a result last few years the NZ dollar has benefitted from
having relatively high interest rates, while the US Federal Reserve has kept interest
rates at zero in the US. It is only in recent times with the US Fed ending its easing
program and indicating hikes are imminent that the US dollar has experienced a
powerful rally.
NZD/USD Reversing a Multi-Year Trend
Source: Research
We first opened our trade on the 27th of October, ahead of a widely anticipated US
Federal Reserve Meeting. Our view was the market had wrongly assumed that the Fed
would delay lifting interest rates off zero, and the strength in the US dollar post
meeting proved we were correct.
As well as interest rate differentials, a moderation in NZ economic growth at the same
time as the US economy continues to recover is central to our view of further weakness
in the NZD/USD.
Overall, we see fair value of the NZD/USD at around $0.60, and remain very much of
the view that we will see further weakness in the NZ dollar versus the US dollar.