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FX Update: Coalition negotiations set to kick off in NZ and Germany

Written by Howard Wilcox on September 26th, 2017.      0 comments

5:30pm (NZT)
Financial markets swung into a “risk-off” mood with US equity markets lower and  safe haven assets were higher including gold and US Treasuries. This came as North Korean tensions ratcheted higher, after US bombers ranged close to Nth Korea and the Nth Korean foreign minister accused President Trump of declaring war on North Korea, saying that Pyongyang reserves the right to take countermeasures including shooting down US strategic bombers even if they are not in the country's air space….expect Korean issues and the war of words to keep markets jumpy over the week. Politics remained to the forefront as Japanese PM Abe called an early snap election over a year before his government’s term is set to expire, with voting set for October 22. Abe also took the opportunity to announce a US$18 billion economic stimulus package which saw the JPY retreat. In the fallout from the German elections, Merkel has been returned but not with enough numbers to form a Government without coalition partners,  the anti-euro AfD party in  came in third with 12.6% behind Chancellor Merkel's CDU/CSU (33%) bloc and SPD (20.5%). a coalition is expected to take at least a month to form. In New Zealand the election result was a clear win for the incumbent National government being the largest party, but with several of its minor coalition partners being swept aside now faces the task of forming a coalition with NZ First. Expectations are that this will take until 12th October.    

With little in the way of domestic Australian data out this week look for USD moves, China news and metal prices to be the main drivers of Australian dollar direction this week. After falling through the benchmark 0.8000 level against the USD last week the AUD has opened the week recovering from last Thursday’s 3 week low of 0.7908 after the S+P sovereign rating downgrade of China. Currently the AUD/USD is around 0.7935 and looks to be struggling as demand for the risk sensitive AUD has been blunted on the heightened tensions between Nth Korea and the US. Also not helping are softer prices for metals, although gold recovered 1% back over the US$1300/oz mark, to US$1,310/oz. The firming gold price will to some extent help to underpin the AUD, but upside for the AUD/USD looks limited to 0.7960 and if geopolitical tensions continue to lead the market look for the AUD to sink back to last week’s 0.7908 low a break of which would then test support in the 0.7870 region.

New Zealand
New Zealand dollar trading has opened the week fairly subdued. Initially traded higher against the USD to around 0.7320/25 on the back National’s election result but then drifted lower as realisation set in that it would take some time for a coalition government to be created and it was possible that a Labour-Greens-NZ First coalition could eventuate. Expectations are a decision by the 12th October. The delay should be mildly NZD negative. Just released is the August trade deficit which has come in higher than expected. Due to the seasonal nature of our of agricultural exports the balance is normally negative at this time of year, however there was a large shift from a July surplus of $147 mio to a $211 deficit in August. Dairy export volumes  were lower, likely to be a timing difference given that they were high in the previous two months so this should be reflected in the September data. Import were 2.9% lower in seasonally adjusted terms. The NZD has shown little reaction to this data, likely drivers this week are coalition partner speculation and offshore moves in the USD along with Nth Korean tensions. NZD/USD should hold a 0.7230-0.7310/20 range over the next few days. No change to the RBNZ rate on Thursday, should stay at 1.75% repeating the neutral guideline however the accompanying rhetoric will be watched closely as always.

United States
The week opened with the increase in Nth Korean-US tensions seeing a flow into risk-averse assets, pushing Treasuries higher, while a selloff in technology stocks also helped drag down U.S. equities. The US dollar was stronger amid weakness in the euro following the German election and after ECB head Mario Draghi pointed to uncertainties about the medium-term outlook for inflation. Oil surged higher as Turkey threatened to shut down Kurdish oil exports through its territory. Although the Nth Korean issue is expected to garner more headlines,  the tax-package according to reports is still being worked on. Given that one of the props of this package was the repeal of Obamacare ( to achieve some government savings ) and this has not yet been attained the tax reduction package looks to be some time away, but any movement on this will be positive for the USD. Later tonight, US Fed Yellen is due to deliver a speech at the National Association for Business Economics Annual Meeting, in Cleveland, but it seems unlikely she would offer something that can surprise market players, especially after last week's statement.

United Kingdom
The UK PM Theresa May's key Brexit speech in Florence last Friday, was seen as a bit of a damp squib, failing to inspire UK pound trading after it was announced with the choppy pound drifting lower on the currency markets and sentiment split on the markets by an appearance notably high on rhetoric but short on detail. PM may commented that the UK will honour its financial commitments to the EU and is seeking a two-year transition period. She also reiterated the Government's stance that the UK will be leaving the single market and customs union but didn't mention the €20bn divorce offer referenced in press reports. The UK pound was initially lower then rebounded against the Greenback, now at 1.3478 it is gradually clawing back after GBP/USD dropped to a low of 1.3450 on Friday after ratings agency Moody's downgraded the UK to an Aa2 rating from Aa1; having removed its top level AAA rating in 2013. Technically, the 1.3440/50 level remains as the supporting area ahead of a deeper pullback to 1.3350. Conversely, a break of the 1.3580/90 resistance area opens up 1.3640/70 as a target and the 2014-2017 downtrend target.

German elections saw 4 time winner Angela Merkel voted back in as the largest party but losing 10% of her party's previous support. It was the worst result for her CDU/CSU bloc since 1949 and saw the EUR gap down 1.954 to 1.1915 yesterday. At the same time, the far-right AfD got 12.6%, making it to the Parliament for the first time since WWII which could complicate coalition proceedings. The immediate focus for both Merkel and the markets will be her coalition talks and she has already ruled out allowing the AfD to join in. The implication is that the next few years could be tough for Merkel.  Markets may also infer that the political backdrop in the Eurozone is still disjointed and continues to pose a threat to investment potential medium-term. The election relief boost for the EUR never came, as it was hit by the stronger USD and the run into safe-haven assets at 1.1860 look for the EUR to trade in a 1.1820/30 - 1.1885 range over the next few days.

Political developments were to the fore for the JPY, with the surprise call by Japanese PM Abe for a snap election to be held on October 22nd. Also announced was an economic stimulus package to increase spending on childcare and education. This saw the JPY gain little benefit from the renewed risk-off tone on the increased Nth Korean tension with the USD/JPY climbing back over 112.50. It has now dropped back around the 111.65 level with immediate support at 111.40 and resistance at the 112.85 level. The downside is favoured given that domestic politics will create uncertainty around the JPY.

Canadian retail sales and CPI data, although both higher, were both below expectations. Key inflation figures in the Canadian economy showed headline consumer prices tracked by the CPI rising at an annualized 1.4% (vs. 1.5% forecasted), with monthly retail sales up 0.4% higher, but below previous surveys. This saw the USD/CAD bottom out in the 1.2260 region then surging over the 1.2300 mark. It now sits around 1.2370 with resistance at 1.2385 and support now at 1.2300.

Major Announcements
•    US Building permits 1.30m vs 1.22m expected
•    UK Retail Sales 1.0% vs 0.2% expected
•    FOMC leaves interest rates unchanged
•    NZ GDP 0.8% as expected
•    Bank of Japan leave interest rate unchanged
•    Canadian Inflation 0.1% vs 0.2% expected
•    Canadian Retail Sales 0.2% vs 0.4% expected