FxWirePro: NZD/USD 1m IV skews give away more bearish outlook, Fed and RBNZ to substantiate – Customize Currency Swaps as IRS yields to spike

At its May interest rate review, the Reserve Bank of New Zealand kept the Official Cash Rate (OCR) on hold at 1.75%, as expected. – However, the RBNZ also concluded that developments since the February Monetary Policy Statement have been neutral for monetary policy.

Consequently, they kept the projected path for the OCR unchanged, with no rise in the OCR factored in until late-2019. The markets and many analysts had anticipated the RBNZ to signal an earlier start to interest rate hikes.

NZD remains relatively well supported in a fairly neutral 0.6850-0.6950 range. US dollar’s recent softness plus a potentially upbeat RBNZ on Thursday are supportive factors.

In RBNZ’s MPS, OCR was kept on hold at 1.75%, with a stronger signal that the next move will be up. Following the announcement, the New Zealand dollar fell 110 basis points to the current 0.6830 and the two-year swap rate fell 8 basis points.

NZDUSD in medium perspective:  The Fed’s tightening cycle plus US fiscal expansion should maintain upside pressure on US interest rates and the US dollar, pushing NZDUSD below 0.6700. However, local factors are supportive: a strong NZ economy, higher dairy prices, and an RBNZ which has finally met its inflation target.

Please be noted that the 1m IV skews are signifying the above stated central banks’ outlook and accordingly, hedgers’ sentiments towards bearish risks.

The RBNZ’s policy outcome will likely continue sway today, NZ 2yr swap rates opening about 2.345%, the 10yr at 3.428%.

NZ swap yields in medium perspective: The RBNZ said it has ended its easing cycle and will remain on hold for some time. That will anchor the short end, although markets will not abandon their expectations for tightening as early as 2018 which means occasional spikes in the 2yr will be likely. The long end will continue to follow mainly US yields, which we expect to rise. That means the curve steepening trend should continue.

Interest rate swaps (IRS) are meant for bartering two different interest payments, whereas currency swaps are for exchanging an amount of real cash in one currency for the same amount in another. An interest rate swap is a financial derivative contract in which two parties agree to exchange their interest rate cash flows.