by Jon Beddell
Britain’s economy grew by just 0.2% in the first quarter of 2010, much less than the 0.4% expected by analysts. The soft data released on Friday had an immediate impact on sterling, which retreated sharply, hitting the lowest levels against the Kiwi since April 1st. The New Zealand dollar strengthened further yesterday as investors looked ahead to the prospect of interest rate rises. That theme was buoyed today on news that Fonterra, the world’s largest dairy exporter said its farmer members will receive prices around 7% higher than expected for 2009-2010 production of milk solids. That increase adds around 0.3% to the country’s GDP.
It’s a big week ahead for the US data calendar, with the latest interest rate announcement from the Federal Reserve on Wednesday, followed by the first quarter growth figure on Friday. Interest rates are almost certain to stay on hold at the record low of 0.25%, but investors will be watching closely for any change in language. Specifically, the Fed’ have made a habit of stating that rates will remain low for “an extended period”. Markets are hanging on to that key phrase as a sign that rates will stay unchanged for the next few months. Dropping that phrase would therefore be the Fed’s warning to the market that a rate rise is on the way, and would negatively impact the high yielding currencies, which at present are continuing to benefit from investor risk appetite and the lack of yield on the US dollar. Analysts are expecting an annualised growth rate of 3.5% in the first quarter, compared to 5.6% in the last quarter of 2009. Interest rates aside, positive US economic data tends to add to the allure of the high yielding currencies. Investors take these US data as a sign of global recovery, and perversely, they sell the US dollar and buy the Australian and New Zealand dollars as appetite for risk increases along with their confidence in the global economic outlook.
The dominant story driving the pound this week is of course, the general election. Interestingly, sterling has actually been rising as the spectre of a hung parliament looms ever larger. The traditional view is that a hung parliament is bad news for the pound because no one party would have the clout to force through financial reforms and tackle the budget deficit. Press comment over the weekend has pointed toward other countries that have run successful coalition governments, in particular Germany, and the current strength of sterling against the euro may support that view.
Australian inflation data on Wednesday is expected to show an annualised inflation rate around 2.8%. On Friday a Reserve bank official said that interest rates are now “close to average”, indicating that the rate tightening cycle may slow. The RBA has raised interest rates several times over the last few months, most recently on April 6th when they raised the benchmark lending rate to 4.25%. The next policy meeting is May 4th, and following Friday’s comments futures markets are now pricing in a 26% chance of another rate hike, down from 40% before the comments were made. If Wednesday’s inflation data is higher than expected, the chances of another rate hike will increase, and that could drive AUD and NZD higher. Conversely, a figure on or below expectations should reinforce the “no change” view.
The technical outlook remains negative for sterling. Demand for the Kiwi remains very strong, and the fundamentals driving that demand are still very much in place. Stock markets are hitting new highs almost every week (stocks are a barometer of investor risk sentiment) and commodities are also rising. The price chart is still showing a down trend, and after a rally in late March the market appears to be turning lower again. Watch out for a return to the recent lows below 2.10. We continue to recommend a cautious approach, hedging at least half of any exposure at current levels.
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