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USD strengthens again as 10-year bond yields break 2.50%. NZD outperforms AUD once more.

By Nick Parsons

It’s done it again! Once more, the New Zealand Dollar was top of the one-day performance table on Tuesday, though on this occasion it had to share the honours with the US Dollar. It has now topped the table for three of the past four trading days even though, once again, there was no domestic economic or political news to drive the currency. The flightless bird couldn’t quite make it on to a US 72 cents big figure but did reach an intra-day high of 0.7187; its highest since October 17th.

On the basis that ‘if there’s nothing to say, then don’t say it’, our NZD commentary will necessarily be somewhat shorter today. After extensive research using a popular internet search engine, we could reveal the most rejected baby names in New Zealand in 2017 (spoiler alert: Royal and Prince) or what New Zealanders complain most about but these are literally the top stories in the news. Other than that, absolutely nothing of interest.

There’s no economic news scheduled for release locally on Wednesday, with the first private sector numbers of the year the QV house price data and ANZ job advertisements on Thursday. The official statisticians told us last night that there are an estimated 1,734,800 households in New Zealand and 1.855,500 private dwellings but there are no market-moving data until well into next week.

For today, the Kiwi Dollar opens in Asia this Wednesday morning at USD0.7170 with AUD/NZD at a near 4-week low of 1.0900.

The Australian Dollar didn’t have a great day on Tuesday though it did manage a 10th consecutive day on a US 78 cents ‘big figure’. The high point of USD0.7863 came during the Asian session after publication of the November building approvals data (see below) but it then lost around half a cent in London before a rally around midday which was subsequently reversed in New York trading. It ended the day in the middle of the FX majors pack: gaining against the EUR, GBP and CAD but losing ground against both the USD and NZD.

Building approval generally marks the first stage of any construction project. The number of dwellings approved rose a seasonally adjusted 11.9% in November 2017 and has risen for 10 months, according to the Australian Bureau of Statistics (ABS). Dwelling approvals have continued to rise in recent months, which has been driven by renewed strength in approvals for apartments. Approvals for private sector houses have remained stable, with just under 10,000 houses approved in November 2017. The value of total building approved rose 1.5%in November, in trend terms, and has risen for 11 months. The value of residential building rose 2.3 % while non-residential building rose 0.2%.

We said at the very beginning of trading on Monday that the AUD “may now need better domestic data, continued support from higher commodity prices or a further collapse of the USD if it is to build on recent gains.” Building approvals managed to tick the first of these boxes, even if the other two weren’t forthcoming. It may be too early to raise a warning flag but note that gold on Tuesday fell $8 to 1311; its lowest point since last Thursday.

The AUD opens in Asia this morning at USD0.7825 with AUD/NZD at 1.0900 and GBP/AUD 1.7295.

After a mixed week in which it raced up to a high of USD1.3608, then came back down equally rapidly to 1.3500 before finishing on Friday evening at USD1.3565, the GBP is back down again today; the second weakest of the major currencies after the European euro.

The initial market reaction to Prime Minister May’s Cabinet reshuffle on Monday had been broadly positive, mostly because it reduced the scope for mutiny amongst Government members (talk about setting the bar low!) On Tuesday, however, the consensus amongst serious political analysts was that it exposed the weakness of the Prime Minister and laid bare the few options open to her. Amongst the UK newspapers, The Guardian predictably headlined “May reshuffle disarray. The Times notes, “An event that could have been used to clarify the direction of the government after a difficult few months served only to highlight the incoherence at Number Ten” whilst the Daily Telegraph, calling it the night of the blunt stiletto, says “Theresa May’s hopes of asserting her authority with a Cabinet revamp fell flat after senior ministers derailed her reshuffle by refusing to budge from their jobs”.

There is plenty of UK economic data to look forward to on Wednesday with manufacturing and industrial production figures, the November trade balance and the NIESR’s estimate of GDP over the previous three months. Ahead of all that, the pound opens in Asia this morning at USD1.3530, AUD1.7295 and NZD1.8870.

We have been expressing our puzzlement at the Dollar’s decline in late December and early in the New Year given the strength of the US stock market, the rise in yields across all parts of the maturity spectrum, the passage of a historic tax reform bill and the prospects for upward revisions to growth forecasts in 2018.

Perhaps, we might be allowed to set humility to one side and repeat what we said here last Wednesday: “For the moment, it seems just that the dollar is falling because it is falling. The technical tail is wagging the fundamental dog. When price action itself is such a dominant feature of trading, investors seek confirmation of the prevailing trend by seeking out the bits of news which support a continuation of the move rather than viewing the incoming information more objectively”.

We repeat these comments because having noted that January 3rd 2017 marked the turning point for the USD last year, the same date in 2018 has so far marked the low point for the USD after its latest sell-off. Its index against a basket of major currencies reached a 14-week low of 91.44 last Wednesday Jan 3rd. Friday’s low was 91.50, Monday’s was 91.56 and from that point it has moved steadily higher to make it back on to a 92 ‘big figure’ for the first time in more than a week. On Tuesday morning in New York it reached 92.27 and though it is too early to say with confidence that a decisive turning point has been made, the USD bulls are winning the argument in the near-term.

US 10-year Treasuries now yield more than 2.50% for the first time since March last year, rising 6bp yesterday to 2.54%. The yield curve from two to 10 years steepened by 5.4 basis points, the most in over a year, to 57.4bp. For the moment, stock markets have shrugged off this development but don’t be surprised to hear it as an explanation the next time that equity indices end lower. And on that subject, a fascinating study from BoA Merril Lynch shows that, “Since March 16, 2016, the S&P 500 has gone for 386 trading sessions without a 5% drawdown. If the trend persists, in just 10 more days this will be the longest stretch without such a drawdown in history.” Wow…

The US Dollar index opens in Asia this morning around 92.20.

The EUR had a poor day on Monday, slumping to the bottom of the one-day performance table despite further upbeat survey indicators. On Tuesday, also, it shrugged off a very solid set of German industrial numbers as markets continue to fret about the political situation in Germany. EUR/USD has slipped to a 2018 low of USD1.1919; its lowest since December 28th.<>
Aside from the political concerns which we’ve been flagging up over the past few days, the interest rate differential between core European bonds and their US equivalents is now beginning to weigh on the Single European Currency. As mentioned above, 10-year US Treasuries hit a 10-month high of 2.54% yesterday but their German equivalents were up only 2.5bp to 0.45%. For sure this is still well above the December lows of 0.30% but the differential with the United States is back over 200bp at the 10-year maturity.

For the moment, annual CPI inflation in the euro zone remains stubbornly low at 1.4%, or just 1.1% when volatile food and energy prices are stripped out. This is well below the ECB’s target of an inflation rate of close to but just under 2 percent. Though ECB Council member Ewald Nowotny said in an interview published on January 2nd that QE could end in 2018 if the euro zone economy continues to grow strongly and on Sunday, the Bundesbank’s Jens Weidmann said the ECB should set a date to end QE, the market is still not fully pricing a rate hike until early 2019. Strong economic data are certainly helping the EUR but the yield differential is now creating quite a headwind for the exchange rate against the US Dollar.

The EUR opens in Asia this Tuesday morning at USD1.1930, AUD/EUR0.6560 and NZD/EUR0.6015.

The Canadian Dollar had a great start to the New Year 2018. USD/CAD tumbled at one point on Friday to 1.2372; the lowest since September 27th. On Monday it mostly consolidated these gains in a range 1.2385-1.2435 but on Tuesday in the face of a generally stronger US Dollar, investors were beginning to have second thoughts about pushing the Canadian Dollar much higher. USD/CAD touched 1.2475 before settling in New York around 1.2460.

After Friday’s Canadian employment report, the market-derived probability of a rate hike at the Bank of Canada’s next meeting on January 17th surged to 70%, from 40% earlier in the week. On Monday, those rate hike odds hit 86% after the Bank of Canada published its Q4 Business Outlook Survey; the last real chance for the Central Bank to communicate something dovish ahead of next Wednesday’s monetary policy meeting. Indeed, five of the six major Canadian banks are forecasting a 25bp hike.

The first point to make, therefore, is that a rate move is almost fully discounted. We then need to look at risks. There’s realistically a zero probability of a 50bp hike, so the risk is BoC does nothing. A risk, of course, is not the same as a prediction though BoC Governor Poloz has previously spoken about the benefits of surprising financial markets rather than flagging its plans well in advance.

We’ll get to see data on Canadian building permits and new house prices later this week. Ahead of that, the Canadian Dollar opens in Asia this morning at USD1.2455, GBP/CAD01.6855 and AUD/CAD0.9745.