The New Zealand dollar has been considered the high-yield currency among the majors for years. And, even though its benchmark lending rate is at a discount to its Australian counterpart, speculators still recognize the specialty the kiwi retains as a high income currency whereas others are graded for their growth potential and the health of their financial markets.
This elevates the influence of this currency amongst its peers and makes the RBNZ policy decision a meaningful event for the broader FX market.
[B]The RBNZ Holds[/B]
It should come as no surprise to fundamental traders that the policy authority decided to keep the Official Cash Rate unchanged at for the third consecutive meeting at 2.50 percent. The economy is still struggling to pull itself out of recession yet inflation is still close to close to the central bank’s target level. More importantly, Governor Alan Bollard has issued commentary over the past months that have been relatively transparent with his intentions. Nonetheless, heading into the event, overnight index swaps were pricing in a 10 percent probability that the rate would be cut by 25 bps.
[B]Putting the Decision into Context[/B]
When the decision to maintain the benchmark rate was announced, the market had to make the fine adjustment for the modest premium afforded to the possibility of a cut. More important, was the accompanied the decision. In regards to growth – the first stepping stone to a turn in interest policy and therefore the kiwi dollar – the prognosis was slightly more optimistic but certainly cautious. Bollard noted evidence that the recession was easing; but that the subsequent recovery was going to be slow and choppy. Looking into specific sectors, he said retail spending and residential housing had stabilized; but there was limited scope for a recovery in employment and investment. With an outlook for medium term inflation to remain within a reasonable range, there was little need to act on rates.
There were a few particular comments that struck a cord with traders though. The Governor said that he would be disappointed with further appreciation in the currency. This isn’t new as he has tried to jawbone and intervene for months – and done so unsuccessfully for some time. More interesting was the suggestion that he doesn’t think further rate cuts would have much impact on the kiwi dollar – a suggestion that he wouldn’t use policy to influence exchange rates. To offset this bullish notion, he went on to say that he expects to keep the benchmark lending rate unchanged until late into 2010. This seems to put a cap on the yield opportunities; but we have seen in the past that RBNZ is quick to change its stance and act on rates. Clearly, the market thinks his outlook somewhat unrealistic as Credit Suisse overnight index swaps are still pricing in nearly 100 basis points worth of hikes over the coming 12 months. Considering their habit for successful and large rate changes, this is still somewhat reserved and suggests they will not start until early or mid 2010.
[B]Market Reaction[/B]
Volatility immediately picked up after the release; and the initial move was for a drop in the New Zealand dollar. Concerns over the appreciation of the nation’s currency and warnings that the benchmark rate can be held at its current level for another year or more is certainly bearish. However, comparing the sentiment following this event to previous rate decisions and Bollard commentary, this was relatively reserved – if not a modest shift to the center. With signs that individual sectors of the economy are showing improvement, we are laying the ground work for a global recovery. Armed with the knowledge that the RBNZ can on a dime when it comes to interest rates, the kiwi would slowly appreciate after the event.
