The EUR / NZD currency pair, which expresses the value of the euro in terms of the New Zealand dollar, has mixed characteristics which are due to the general and possibly changing perception of the euro market.
As noted in a recent article from mine on EUR / AUD, the euro has largely deviated from its previous trading range, thereby completely canceling out the previous trading range. From a range of around 1.60 to 1.66 (around 600 pips), the EUR / AUD broke 1.66 and peaked near 1.98 in March 2020. This sudden rise also was noted in the EUR / NZD spot prices; this is not surprising, since AUD and NZD tend to be highly correlated.
((Graph created by the author using TradingView. The same applies to all of the following candlestick tables presented below.)
As explained in my article on EUR / AUD, the recent and rapid rise in the euro was largely due to a substantial and rapid decline in the sense of global risk. The euro has climbed on the back of rapid demand, not because of a significant change in the underlying fundamentals, but rather of a need in euros which has been driven by a unwinding of the carry operations and the international investments.
The euro area has been maintaining negative interest rates for some time. The European Central Bank deposit facility rate, which is the best comparable rate for other short-term central bank rates, has been negative since June 2014 (currently negative -0.50%). In the long run, this has made the euro both unattractive to hold and attractive to sell (i.e. in exchange for higher yielding currencies such as the US dollar).
The euro has also been an effective funding currency; Investors in Europe (and abroad) were able to sell negative-yielding euros to buy US dollars, and then buy US stocks (or other dollar-denominated assets). As the euro has generally been declining for years, international investors have been able to benefit from both the favorable currency movement (for sellers of euros) and any increase in US stocks (or other assets). The recent fall in risk assets has prompted rapid repatriation, leading to a sharp rise in many EUR FX crosses (even EUR / USD).
AUD and NZD are both considered commodity currencies, with the Australian dollar and the New Zealand dollar both positively correlating with commodity prices in general. Some of these effects may be a little indirect. For example, Australia’s main exports include petroleum gases. These petroleum gas products are different from crude oil, and indeed, gas prices can even change inversely with oil prices since crude oil is an “ingredient” in liquefied petroleum gas (which is extracted from petroleum raw heated).
New Zealand is even further from oil; its main exports are much more focused on food (including dairy products, meat, fruit, etc.) and materials (such as wood, aluminum, etc.). Crude oil is an export, but the $ 314 million in crude oil exports in 2019 is overshadowed by the country’s exports, even, say, of wine ($ 1.2 billion in 2019).
However, the AUD and NZD are correlated to oil prices, as oil prices tend to rise when the sense of global risk and the outlook for global economic growth improve. It is then that the raw materials generally resume (provided that the supply is not increased at a rate greater than the demand). The AUD and the NZD are the beneficiaries of this rise in the prices of raw materials, since they are more generally exporters of raw materials.
Australia and New Zealand are also not very sophisticated economies, as their exports are highly concentrated (undiversified). Therefore, when the sense of global risk wanes, the AUD and the NZD can be punished by the markets as traders and investors seek safety.
((Source: Observatory of economic complexity, for Australia and New Zealand.)
New Zealand’s main exports (according to 2017 figures, provided in the table above, from the CAB) are actually somewhat less concentrated than exports from Australia. This is probably (in part) why the AUD / NZD cross fell rapidly in March when the feeling of risk really collapsed (which I discuss in my recent article on AUD / NZD). AUD and NZD have both made substantial recoveries from their recent lows against other major currencies such as the USD, EUR and JPY. The graph below illustrates this.
After the recent decline in the AUD and NZD, both have rallied against the euro since the lows of March 2020. However, the AUD has further accelerated, which is perhaps to be expected as c is the least diversified economy (the most risky currencies are generally more volatile both upwards and downwards). The delay by the NZD is not particularly surprising, but it may make it less risky to hold in terms of AUD, because the economic risks remain linked to the coronavirus pandemic.
It is important to remember that, since central banks have effectively lowered rates at the lower zero bound overall, there are no significant differences between short-term interest rates today. However, the ECB maintains negative rates, which should help exert long-term natural downward pressure on the euro. However, as we have seen recently, another significant movement of risk could push the euro higher against the AUD and the NZD, which is something to consider as a “tail risk” if you are long in any of these commodity currencies from the Antipodes.
On the other hand, if the AUD and the NZD continue to appreciate, it will probably be more profitable to maintain these currencies against the EUR, since it is likely that the long-term trajectory of the EUR / USD will continue to favor the decline. Since the short-term EUR / USD spreads are so marginal, the EUR / USD is not exciting from a speculative “carry trade” point of view. However, political risks remain in the euro area. Brexit, Italy’s financial situation and even the break of the Turkish lira (a country which is not part of the European Union, but which is still close) will mean that if the interest rate differential will remain tight for EUR / USD, the “political stability differential” (so to speak) should favor a weakening of the euro.
As noted in my EUR / AUD article, the risk of another spike remains, and this would likely also apply to EUR / NZD (although perhaps to a lesser extent, given that the AUD is likely to be considered more risky than the NZD on the FX (risk spectrum). Provided that the stability of oil prices remains until May and that equity volatility remains calmer than what we saw in March (ideally with a VIX below 30 to 35), AUD and NZD could continue to appreciate. To express this point of view, which is indeed the current trend, a EUR short against NZD would make sense.
However, the so-called tail risk of another peak in the euro (driven by another upward mechanical tightening via the unwinding of transactions financed by the euro and / or the repatriation of capital from the euro without leverage) seems to make EUR / AUD and EUR / NZD both quite risky now. The market seems to want to push the AUD and the NZD into a range of “fair value” closer to the prices we saw before the stock market crash of March 2020. This bias should continue to favor a further decline of the EUR / NZD . Nevertheless, it would probably be more prudent to watch and wait for any upward volatility in the euro before launching a short position in the EUR / NZD.
In the current economic environment, there is also a risk of a longer-term transition to a less globalized economy. I may well explore this subject further in the future, as any movement of “de-globalization” is likely to be particularly bearish for commodity currencies, including the NZD.
Disclosure: I have / we have no positions in the stocks mentioned, and we do not intend to take any positions in the next 72 hours. I wrote this article myself and it expresses my own opinions. I do not receive any compensation for this (other than from Seeking Alpha). I have no business relationship with a company whose stock is mentioned in this article.