NZD USD - FUNDAMENTAL DRIVERS
NZD
FUNDAMENTAL BIAS: WEAK BULLISH
1. Monetary Policy
The RBNZ underwhelmed some market participants who were looking for a 50bsp hike at their last policy meeting and the bank delivered a 25bsp hike as consensus was expecting. Even though the NZD took a plunge after the meeting, we don’t think markets are really giving NZD the upside it deserves after the Nov RBNZ decision. Not referring to the knee-jerk lower after the 25bsp hike of course as that was fully priced in and always ran the risk of underwhelming the bulls, but the outlook in the MPR justifies more NZD strength. The upgrades to the economic outlook between Aug and Nov were a lot more positive than expected, with growth
seen lower in 2022 but much higher in 2023, CPI seen higher throughout 2022 and 2023, Unemployment seen lower throughout the forecast horizon, and of course the big upgrade to the OCR which is now seen at 2.6% by 2024. The bank also brought forward their expectation of reaching the 2.0% neutral rate by 5 quarters. For now, incoming data will be very important and any new developments with the new Omicron variant will be closely watched. Any major deterioration can see markets pricing out some of the hikes that has been priced in and is a risk to the outlook. However, if data stays solid, the recent sell off in the NZD does seem at odds with the fundamental, policy and economic outlook.
2. Economic and health developments
Even though the NZ government has abandoned a covid-zero strategy, the recent rise in Omicron cases as well as well as the PM going into self-isolation is worth keeping on the radar. Turning to the econ data, the recent macro data, including Q4 CPI data has surpassed both market and RBNZ expectations. But markets have not been too bothered with the incoming data and have not given the NZD the upside it deserves. For now, based on the economic and policy outlook the NZD still seems undervalued at current prices, but we need to keep close track of the overall risk sentiment.
3. Global Risk Outlook
As a high-beta currency, the NZD usually benefits from overall positive risk sentiment as well as environments that benefit pro-cyclical assets. Thus, both short-term (immediate) and med-term (underlying) risk sentiment will always be a key consideration for the NZD.
4. CFTC Analysis
Positioning changes has been very limited for the NZD in the past few weeks and with the flush out of net-longs among Leveraged Funds in Dec we can see that positioning is close to neutral for both large specs and leveraged funds. The sentiment signal from the unwind in positioning means right now we are happy to wait for incoming econ data or strong risk sentiment impulses to give better sense of where the NZD goes next.
5. The Week Ahead
Inflation expectations and a speech by Gov Orr is the only major scheduled events on the radar for the NZD this week. The real question is whether either of them will be enough to provide any meaningful volatility for the NZD? Over the past couple of weeks, the price action and momentum signals has continued to deteriorate for the NZD, which has kept us very patient and also saw us tilt our bias from bullish to neutral until markets wake up from their slumber and realize that the RBNZ remains the most hawkish central bank among the majors and the economic data still means the bank is set to out-hike all of their peers. The other factor to watch for the NZD in the week ahead is risk sentiment, with US CPI in the mix, as well as bond markets crashing hard, credit spreads starting to widen and real yields pushing higher across major economies, the uncertainty is starting to pile on for risk assets which means caution on that front will be important for the NZD and the other high betas in the week ahead.
USD
FUNDAMENTAL BIAS: BULLISH
1. Monetary Policy
The Jan FOMC decision was hawkish on multiple fronts. The statement signalled a March hike as expected, but Chair Powell portrayed a very hawkish tone. Even though Powell said they can’t predict the rate path with certainty, he stressed the economy is in much better shape compared to the 2015 cycle and that will have implications for the pace of hikes (more and faster). Furthermore, he explained that there is ‘quite a bit of room’ to raise rates without damaging employment, which suggests upside risks to the rate path. A big question going into the meeting was how concerned the Fed was about recent equity market volatility . But the Chair explained that markets and financial conditions are reflecting policy changes in advance and that in aggregate the measures they look at isn’t showing red lights. Thus, any ‘Fed Put’ is much further away and inflation is the Fed’s biggest concern right now. The Chair also didn’t rule out the possibility of a 50bsp hike in March or possibly hiking at every meeting this year, which was hawkish as it means the Fed wants optionality to move more aggressive if they need to. We didn’t get new info on the balance sheet and Powell reiterated that they’re contemplating a start of QT after hiking has begun and they’ll discuss this in coming meetings. Overall, the tone and language was lot more hawkish than the Dec meeting and more hawkish than consensus was expecting.
2. Global & Domestic Economy
As the reserve currency, the USD’s global usage means it’s usually inversely correlated to the global economy and global trade. Thus, USD usually appreciates when growth & inflation slow (disinflation) and depreciates when growth & inflation accelerates (reflation). With expectations that growth and inflation will decelerate this year that should be a positive input for the USD. However, incoming data will also be important in relation to the ‘Fed Put’. There are many similarities between now and 4Q18, where the Fed were also tightening aggressively going into an economic slowdown. As long as growth data slows and the Fed stays aggressive that is a positive for the USD, but if it causes a dovish Fed pivot and lower rate repricing it would be a negative input for the USD.
3. CFTC Analysis
The USD came under some pressure this week, mainly due to overdue mean reversion, recovery in risk assets and of course the surprise hawkish actions by the BoE and more specifically the ECB. Keep in mind that half of the USD’s drop this week occurred outside the CFTC reference period which would explain more limited unwinding in net-longs, and we would expect this number to be much bigger next week. With positioning still in net-long territory for leveraged funds and large specs, and with leveraged funds sitting on a sizeable net-short in the EUR the recent hawkish pivot from the ECB could see some further damage for the USD in the short-term.
4. The Week Ahead
After last week’s much better than expected Average Hourly Earnings data out of the US, the main event for the USD as well as markets in general will be the January CPI print for the US scheduled for Wednesday. With another month of upside surprises for inflation data in other global economies, the markets will be watching the US CPI for Jan very closely. Right now, Fed policy has tunnel vision for inflation , and with the surprise beat in Friday’s NFP as well as the surprise punchy upward revisions, the labour market won’t deter the Fed from going all-in to fight inflation . The big dynamic to watch for is wages. Friday’s Average Hourly Earnings print of 5.7% was much higher than expected and saw an immediate jolt higher in US bond yields, with Fed Fund Futures now comfortably pricing in well over 5 hikes by the end of the year. Starting the new year, the biggest reason for expecting a deceleration in inflation was firstly due to base effects, secondly due to expectations that supply chain disruptions ease, and very importantly that commodity prices being cooling down. Out of these three, the last one has not happened yet with oil prices continuing their grind higher (which adds upside risks to headline numbers). Two important components to keep on the radar is wages and shelter prices, which for some means there is very little downside risk to this week’s CPI . How will the USD likely react? Recently the USD has reaction cyclically towards inflation data, which means a solid beat should be supportive, but at the same time a miss would be a far more attractive shorting opportunity, especially against the EUR after the ECB’s pivot .
FUNDAMENTAL BIAS: WEAK BULLISH
1. Monetary Policy
The RBNZ underwhelmed some market participants who were looking for a 50bsp hike at their last policy meeting and the bank delivered a 25bsp hike as consensus was expecting. Even though the NZD took a plunge after the meeting, we don’t think markets are really giving NZD the upside it deserves after the Nov RBNZ decision. Not referring to the knee-jerk lower after the 25bsp hike of course as that was fully priced in and always ran the risk of underwhelming the bulls, but the outlook in the MPR justifies more NZD strength. The upgrades to the economic outlook between Aug and Nov were a lot more positive than expected, with growth
seen lower in 2022 but much higher in 2023, CPI seen higher throughout 2022 and 2023, Unemployment seen lower throughout the forecast horizon, and of course the big upgrade to the OCR which is now seen at 2.6% by 2024. The bank also brought forward their expectation of reaching the 2.0% neutral rate by 5 quarters. For now, incoming data will be very important and any new developments with the new Omicron variant will be closely watched. Any major deterioration can see markets pricing out some of the hikes that has been priced in and is a risk to the outlook. However, if data stays solid, the recent sell off in the NZD does seem at odds with the fundamental, policy and economic outlook.
2. Economic and health developments
Even though the NZ government has abandoned a covid-zero strategy, the recent rise in Omicron cases as well as well as the PM going into self-isolation is worth keeping on the radar. Turning to the econ data, the recent macro data, including Q4 CPI data has surpassed both market and RBNZ expectations. But markets have not been too bothered with the incoming data and have not given the NZD the upside it deserves. For now, based on the economic and policy outlook the NZD still seems undervalued at current prices, but we need to keep close track of the overall risk sentiment.
3. Global Risk Outlook
As a high-beta currency, the NZD usually benefits from overall positive risk sentiment as well as environments that benefit pro-cyclical assets. Thus, both short-term (immediate) and med-term (underlying) risk sentiment will always be a key consideration for the NZD.
4. CFTC Analysis
Positioning changes has been very limited for the NZD in the past few weeks and with the flush out of net-longs among Leveraged Funds in Dec we can see that positioning is close to neutral for both large specs and leveraged funds. The sentiment signal from the unwind in positioning means right now we are happy to wait for incoming econ data or strong risk sentiment impulses to give better sense of where the NZD goes next.
5. The Week Ahead
Inflation expectations and a speech by Gov Orr is the only major scheduled events on the radar for the NZD this week. The real question is whether either of them will be enough to provide any meaningful volatility for the NZD? Over the past couple of weeks, the price action and momentum signals has continued to deteriorate for the NZD, which has kept us very patient and also saw us tilt our bias from bullish to neutral until markets wake up from their slumber and realize that the RBNZ remains the most hawkish central bank among the majors and the economic data still means the bank is set to out-hike all of their peers. The other factor to watch for the NZD in the week ahead is risk sentiment, with US CPI in the mix, as well as bond markets crashing hard, credit spreads starting to widen and real yields pushing higher across major economies, the uncertainty is starting to pile on for risk assets which means caution on that front will be important for the NZD and the other high betas in the week ahead.
USD
FUNDAMENTAL BIAS: BULLISH
1. Monetary Policy
The Jan FOMC decision was hawkish on multiple fronts. The statement signalled a March hike as expected, but Chair Powell portrayed a very hawkish tone. Even though Powell said they can’t predict the rate path with certainty, he stressed the economy is in much better shape compared to the 2015 cycle and that will have implications for the pace of hikes (more and faster). Furthermore, he explained that there is ‘quite a bit of room’ to raise rates without damaging employment, which suggests upside risks to the rate path. A big question going into the meeting was how concerned the Fed was about recent equity market volatility . But the Chair explained that markets and financial conditions are reflecting policy changes in advance and that in aggregate the measures they look at isn’t showing red lights. Thus, any ‘Fed Put’ is much further away and inflation is the Fed’s biggest concern right now. The Chair also didn’t rule out the possibility of a 50bsp hike in March or possibly hiking at every meeting this year, which was hawkish as it means the Fed wants optionality to move more aggressive if they need to. We didn’t get new info on the balance sheet and Powell reiterated that they’re contemplating a start of QT after hiking has begun and they’ll discuss this in coming meetings. Overall, the tone and language was lot more hawkish than the Dec meeting and more hawkish than consensus was expecting.
2. Global & Domestic Economy
As the reserve currency, the USD’s global usage means it’s usually inversely correlated to the global economy and global trade. Thus, USD usually appreciates when growth & inflation slow (disinflation) and depreciates when growth & inflation accelerates (reflation). With expectations that growth and inflation will decelerate this year that should be a positive input for the USD. However, incoming data will also be important in relation to the ‘Fed Put’. There are many similarities between now and 4Q18, where the Fed were also tightening aggressively going into an economic slowdown. As long as growth data slows and the Fed stays aggressive that is a positive for the USD, but if it causes a dovish Fed pivot and lower rate repricing it would be a negative input for the USD.
3. CFTC Analysis
The USD came under some pressure this week, mainly due to overdue mean reversion, recovery in risk assets and of course the surprise hawkish actions by the BoE and more specifically the ECB. Keep in mind that half of the USD’s drop this week occurred outside the CFTC reference period which would explain more limited unwinding in net-longs, and we would expect this number to be much bigger next week. With positioning still in net-long territory for leveraged funds and large specs, and with leveraged funds sitting on a sizeable net-short in the EUR the recent hawkish pivot from the ECB could see some further damage for the USD in the short-term.
4. The Week Ahead
After last week’s much better than expected Average Hourly Earnings data out of the US, the main event for the USD as well as markets in general will be the January CPI print for the US scheduled for Wednesday. With another month of upside surprises for inflation data in other global economies, the markets will be watching the US CPI for Jan very closely. Right now, Fed policy has tunnel vision for inflation , and with the surprise beat in Friday’s NFP as well as the surprise punchy upward revisions, the labour market won’t deter the Fed from going all-in to fight inflation . The big dynamic to watch for is wages. Friday’s Average Hourly Earnings print of 5.7% was much higher than expected and saw an immediate jolt higher in US bond yields, with Fed Fund Futures now comfortably pricing in well over 5 hikes by the end of the year. Starting the new year, the biggest reason for expecting a deceleration in inflation was firstly due to base effects, secondly due to expectations that supply chain disruptions ease, and very importantly that commodity prices being cooling down. Out of these three, the last one has not happened yet with oil prices continuing their grind higher (which adds upside risks to headline numbers). Two important components to keep on the radar is wages and shelter prices, which for some means there is very little downside risk to this week’s CPI . How will the USD likely react? Recently the USD has reaction cyclically towards inflation data, which means a solid beat should be supportive, but at the same time a miss would be a far more attractive shorting opportunity, especially against the EUR after the ECB’s pivot .
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