AUD/NZD: Bulls treading on thin ice in lead-up to pivotal central bank meetings

AUD/NZD is currently trading at 1.0399 having travelled between a low of 1.0386 and 1.0403. The markets have been waiting patiently for good old fashioned economic and central bank fundamentals to back to the fore, and w are building up to the big events in the Reserve Bank of New Zealand and the Reserve Bank of Australia policy meetings. 

The NZD has had the upper hand since the 1.0850s back in November, with bears accumulating over 5% tot he downside until YTD lows down at 1.0314. The cross has since corrected back to test 1.0450 but has struggled to maintain conviction, recently losing its footing with a score below the 1.04 handle again. 

We have both the RBNZ and RBA meetings on the radar, with the RBA meeting on 4th Feb and the RBNZ 12th Feb. Market pricing for RBNZ and RBA have been little changed this year with markets pricing in a 50% chance of easing at the Feb RBA meeting, and a terminal rate of 0.44% (RBA cash rate currently at 0.75%) while for the RBNZ, the market implies only a 10% chance of easing in February, with a terminal rate of 0.87% (RBNZ OCR currently at 1.0%) – and there lies the fuel for the downside in the cross. 

The sizable downside potential for AUD/NZD

Casting minds back, Contrary to analyst and market expectations, the RBNZ left the OCR unchanged at 1.0% in November, despite significantly lowering the near-term growth outlook. This was ahead of the Gross Domestic Product release in December which was always going to be a major focus. The New Zealand economy expanded 0.7% QoQ in Q3, a touch stronger than both our and market expectations of 0.5%. However, Q2 growth was revised down markedly from 0.5% QoQ to just 0.1%. With leading indicators looking a bit brighter, growth may continue to bob around 2% into early 2020, but will this be enough to keep the RBNZ on hold throughout the year? This is where regional stories will take centre stage this week:

The big data release will come in inflation for 4Q19 "which is going to be pivotal due to its quarterly frequency and because it may well signal a tick-up in the headline rate towards the Reserve Bank of New Zealand's 2% target mid-point," as stressed by analysts at ING bank. "The consensus is centred around an increase to 1.8% (from 1.5% in 3Q) and we see room for an even stronger reading. This should cement market expectations for the RBNZ to stay put for the foreseeable future and convince investors that the central bank will retain its neutral stance despite a possible dovish steer from its counterpart in Australia."

In light of this, we continue to see sizable downside potential for AUD/NZD, not only on the back of policy divergence, but also as the bushfire emergency raises the risk of a higher growth differential leaning in favour of New Zealand.

We will also have the critical Aussie jobs data this week:

Following the ~40k rise in headline employment in Nov, we are anticipating some giveback in Dec, with headline rising a milder +12k, which is line with the market. However we do expect the unemployment rate to edge higher to 5.3% in Dec. Job vacancies data suggests employment growth is likely to slow over coming months, keeping open the debate on RBA easing,

– analysts at TD Securities explaind. 

Key events for week ahead

• 21 Jan: BOJ Decision.
• 21-24 Jan: World Economic Forum in Davos.
• 22 Jan: Bank of Canada Rate Decision, Canada CPI Inflation (Dec), Bank of Canada Rate Decision.
• 23 Jan: ECB Decision, Australia Employment (Dec).
• 24 Jan: New Zealand CPI (Q4), UK and EU January Flash PMIs, Manufacturing PMI, Services PMI.

AUD/NZD levels