Macro and Vol Commentary
The USD has weakened against a basket of currencies; the NZD is no exception. This week we look at the economic state of New Zealand and what are the looming risks the rally.
New Zealand Data
- Business PMI improved once again in June to 56.3, up from 39.8 the month before
- New orders rebounded strongly to 58.6, with production and finished stocks also rising to 56.6 and 58.6 respectively
- Employment was still contractionary in June at 48.5, up from 39.2
- Unadjusted PMI was 54.9 in June; the production PMI was positive for the first time since February at 56.3
- On a region by region basis, Canterbury rebounded the strongest to 61.6 in June whereas Otago, central and northern regions were less positive at 50.3, 50.1, and 54.9 respectively
- The index outlines that the recovery is starting to take shape, however, employment is still on the back foot, and we need to see more from this sector
- Preliminary business confidence in July improved on a month on month basis to -29.8 from -34.4; the activity outlook improved on a month on month to -6.8 from -25.9 we expect this to improve further into August
- Monthly employment figures showed filled jobs up 1.8% y/y in June with the seasonally adjusted rise at 0.8% m/m to 2.20m. This is the second month of recovery after the decline in April
- There has been an increase in jobseekers and CIRP number in the last month, approximately 65,000 more than in March according to the treasury
- We expect the employment market to improve, however, due to the lack of tourism and reduced capacity as a result of COVID restrictions, gains will be less pronounced
- Credit card spending growth has slowed, up 14% m/m in June, down from 54.3% m/m. Year on Year credit card spending is down on -9.2%, an improvement on the May -20.6%
- The trading balance 12 month YTD for New Zealand improved in June to NZD- 1,196m, up from NZD -1,327m tonnes.
- The balance for June was 416m NZD, as exports slipped slightly to 5.07bn from 5.39bn, as imports increased to 4.64bn NZD
- The weaker exports suggest New Zealand’s trading partners are still suffering from COVID and this may be exemplified by their close ties with Australia
- New Zealand has suspended the extradition agreement with Hong Kong, and this follows similar actions from western economies
- While there is a risk to Australia’s economy with Chinese trade tensions due to exports of grains and iron ore and coal to China, this could cause some flows out of AUDUSD into New Zealand
- However, China is New Zealand’s largest trade partner with the annual amount exceeding $21bn, and the escalation of trade tensions may result in some headwinds to NZDUSD
- The government has committed $62.1bn of fiscal support, supporting workers and businesses. Approximately $12.9bn has been paid out in Wage Subsidy Extension, this is in addition to the Small Business Cashflow Scheme which has paid out $1.47bn to nearly 90,000 applicants.
- This will aid the stimulus provided by the central bank, who reduced their OCR to 0.25%, this rate is expected to remain low for 0.25% for some time
- The reserve bank has committed to purchasing $60bn of government debt in the next year
The economy is showing signs of recovery, but the recent tensions with China could provide headwinds to the currency if things escalate further. The export market ex-china is still weak, and although we have seen commodity prices start to increase of the lows, the NZ commodity export index remains below January levels except for fruit. The government stimulus is finding its way into the economy, and wage subsidies should help support consumer spending, however, the savings ratio will be a headwind. With tourist revenue down, this will leave a hole in the government’s books, but bond yields are positive compared to negative rates in other economies. In the near term, we anticipate further support for NZD over USD, especially if the Australia and Chinese tensions continue to escalate.
Recently macro news has been mixed. We have seen risk-on sentiment news, such as EU leaders agreeing to a stimulus package to help bolster EU economic recoveries, but on the other side, we have seen a further worsening of the East-West relations with the US Govt. Now, the UK Govt increasingly hardening their stance on China over a variety of issues. With this, we have seen Macro FX vols generally creeping up and a weakening dollar amidst the US CV19 second wave.
In the last few months, New Zealand has managed to keep its Coronavirus countdown to the point of it being functionally eradicated in the country. With that, NZDUSD spot has benefited strongly from the domestic economy having fully opened up and a weak dollar with vol realising at pre-CV19 levels (though implied vol is still a little higher than pre-CV19 levels and seen a small pick up recently). We’re favouring short NZDUSD vol/gamma for shorter date expiries at these levels.
NZDUSD Trade Idea
- Priced in 10m a leg
- Short NZDUSD straddle with 1month expiry and delta hedge short gamma position
- Sell for circa 10.00 vols, trade gives short vega of approx 22.5k NZD Vega (about 15k USD equivalent)
- Note this strategy is only suitable for investors who are set up and capable to dynamically delta hedge short vega/gamma positions
Charts and Tables
JP Morgan Global FX Volatility Index
The index was bid below previous support at 7.63 last week which has prompted a break of the resistive moving averages. The index is now holding above 8.20 but remains below key resistance at 8.69. The stochastics are starting to fall, and the MACD diff is converging in positive territory suggesting that buying pressure is waning and we could see a correction to the downside in the near term. If support at the 200 DMA holds firm, this could strengthen the outlook in the long run through 8.69. A subsequent breach of the 200 DMA at 8.04 would set the scene for lower a move back towards the recent low, in order to confirm the trend on the downside, the index needs to take out the low. On the upside, we need to see the index break above 8.69 and then target 9.30 in order to suggest a change in trend.
The index has continued to weaken, as selling pressure dominates the market. The index has been supported at 150% fib level, in order to confirm the inverted hammer the index needs to takeout resistance at 93.844. The MACD diff is positive and diverges on the upside suggesting higher prices. The stochastics are rising towards neutral territory, we could see a correction on the upside towards the 50 DMA at 94.507. We expect rallies to be sold and the trend to remain intact. On the downside, a rejection of prices at 94 would pave the way for a breach of support at the 150% fib level towards 92.
The trend has been strong in favour of NZD in recent months, resistance has been taken out repeatedly. The indicators have started to weaken as the stochastics fall towards oversold and the MACD diff is negative and diverging suggesting lower prices. The rejection of 0.6700 and the weakening indicators suggest we could see lower prices in the near through support at 0.6612. Secondary support stands at 0.6580, before 150% fib level at 0.6529 a breach of this level would help confirm the double top and bearish engulfing candle. Conversely, if futures are supported at 0.6612 this could set the scene for a rested of 0.6715 A break of this level would confirm the trend on the upside.