Published: April 27th, 2022
Currency analysts at Credit Suisse are advising clients to keep a close eye on their NZD and AUD positions in the coming days and weeks, especially in light of Covid news coming out of China.
‘A slowdown in China’s growth has been a possibility for some time. Even though markets took the Evergrande fiasco in their stride, more recently the cracks have been starting to show in the growth engine of the global economy,’ said the bank in briefing note to clients.
Reports of a new Covid outbreak in Beijing have spurred panic buying amid fears that draconian new lockdown measures like those seen in Shanghai are set to be implemented in the capitol.
On Monday 25th April, China’s National Health Commission said that 45 coronavirus cases had been recorded in Beijing since the previous Friday. Cases had been spreading in the community for a week, the commission said, with numerous vectors of transmission.
A note to investors from ING’s Forex Strategy Unit said that China’s latest Covid crisis 'is forcing a re-calculation of growth expectations across the region. The sell-off in Asian equities we’ve seen in the past few days has forced a correction in three of the currencies that had been outperformers in the first quarter; the Australian dollar, the Chinese yuan, and New Zealand dollar.’
China is Australia and New Zealand’s biggest export market, so worries of a significant growth slowdown linked could drag down the island nation’s economy.
Both AUD and NZD often serve as bellwethers for investor sentiment towards China.
Credit Suisse said there was hope that the People's Bank of China (PBoC) QE programme could keep the economy humming on the path to meet its growth targets but now it appears growth has stalled.
The Chinese Yuan has also dropped sharply in recent days, suggesting investor sentiment is deteriorating sharply where China is concerned.
‘Yuan is the canary in the coal mine for NZD,’ says Credit Suisse.
The bank says China helps keep the Yuan on a stable footing, but the sudden devaluation shows the limits of what they can do to arrest the slowdown in their economy. Circumstances have forced the central bank to release some pressure by weakening the currency.
The global economy is staring down a long list of upsets which include surging inflation, rising interest rates at the US Fed, the war in Ukraine, and global supply chain disruption. Lockdowns in China will only intensify any headwinds that result.
'We may be seeing the beginnings of a broader risk-off move,’ says Credit Suisse. ‘Commodities that experienced a strong rally on supply worries are now pulling back notably as demand starts to level off.’
Credit Suisse adds that the PBoC will likely continue making interventions in global currency markets to halt a more rapid drop in Yuan. That might materialise as a shift to buying dollars against G10 majors, then recycle the greenbacks they sell against Yuan to even put their reserves. It also signals that the bank believes USD will stay in demand.
Credit Suisse suggests staying short NZD/USD and AUD/USD in the current environment. At the time of writing the Pound to New Zealand Dollar rate was 1.9272, the New Zealand to US Dollar rate sat at 0.6593.
Last week NZD was top of the leaderboard. On Thursday 22nd April, inflation data showed that prices in the country were rising sharply, though not at the pace as the market had been anticipating.
Numbers from StatsNZ showed CPI inflation rose 6.8 per cent year-on-year in the first quarter. That was up from the previous quarter's 5.7 per cent, but less than the 7.1 per cent markets were expecting
Inflation rose 1.7 per cent quarter-on-quarter in Q1, a bigger rise than 1.4 per cent increase seen in Q4 of 2021. However, it was also below consensus which had been looking for a reading of 2.0 per cent.
NZD’s reaction to the news might seem odd since data showed it to be the best performing G10 currency in the aftermath of the inflation release.
In global forex markets the normal expectation is for fiats to fall in price when inflation fall below investor expectations. But in 2022 the global economy is in a different place, with inflation surging to level that threaten leading domestic economies.
Last week’s New Zealand inflation figures are the highest reading seen in 30 years.
Pierre Godot, Head of Forex Strategy at Crédit Agricole, told Reuters that the Reserve Bank of New Zealand (RBNZ) would have to raise rates even further and faster if inflation continues to punch through expectations.
‘Investors are starting to register concern that the RBNZ may halt the Kiwi economic recovery before it really gets started. Last Thursday's inflation reading might deliver conflicting results for NZD’.
The latest inflation data will strengthen the case for the central bank to push interest rates up further, which should mean more yield support for the New Zealand Dollar.
Markets are looking for another hike of roughly 50 basis points at the central bank’s May meeting, but after that there may be a pause until September.
Godot says investor hopes that the RBNZ will turn aggressive policy wise will hot-up if inflation keeps coming in higher-than-expected.
‘It could flatten the yield curve as investors factor-in a higher risk of New Zealand’s economic recovery being stifled by central bank policy action.’
This refers to the possibility of interest rate futures pointing to higher interest rates in the short-term, but falling rates over the longer-term, a signal that investors expect growth to slow sharply.
Because inflation is starting to sizzle, but not overheating, investors see New Zealand's interest rates rising at a pace that may not weigh on the economy's growth potential.