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Kiwi drops below 70USc on dwindling yield appeal

Thursday 26th August 2010

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The New Zealand dollar dropped below 70 US cents for the first time in seven weeks on expectations the central bank will slow its interest rate increases, dimming the appeal of the currency's yield. 

Wholesale interest rates in New Zealand have continued to fall as the economic recovery loses its momentum, dimming the kiwi's attraction for foreign investors.

Analysts have pared back their expectations for higher interest rates as falling business confidence and a contraction in the manufacturing sector gives the Reserve Bank more room to keep rates lower for longer, and local firms are picking inflation to stay within the central bank's target band in its two-year outlook.

The market expects Governor Alan Bollard to hike the official cash rate 46 basis points over the coming 12 months, according to the Overnight Index Swap curve.

"Interest rates are falling everywhere, but kiwi rates are falling more than most - the economy's momentum here is fading," said Mike Jones, strategist at Bank of New Zealand.

"The kiwi's looking pretty lacklustre and faces downside pressure in the short-term" with a move to 68.50 US cents on the cards in the next week, he said.

The kiwi sank to 69.81 US cents from 70.25 cents yesterday, and dropped to 65.65 on the trade-weighted index of major trading partners' currencies from 66.04. It fell to 59.10 yen from 59.35 yen yesterday, and declined to 79.10 Australian cents from 79.42 cents. It decreased to 55.17 euro cents from 55.54 cents, and was down to 45.16 pence from 45.61 pence.

Jones said the currency may trade between 69.50 US cents and 70.50 cents today, with a "reasonably buoyant close" on Wall Street likely to keep a lid on its losses, though sellers will emerge at the top of the range.

Global sentiment was downbeat as Ireland's downgrade of its credit rating to AA- sparked fears about Europe's sovereign debt, with Irish 5-year CDS spreads, a proxy for default probability, widening to a 17-month high while Greek 10-year bond spreads blew out 40 basis points to 925 points above German bunds.

Japanese Finance Minister Yoshihiko Noda said he would respond "appropriately" to the yen's 15-year high, indicating the world's third biggest economy may intervene in the foreign exchange markets. The yen weakened to 84.58 per US dollar from 84.45 yesterday.

Jones said the Bank of Japan would struggle to successfully intervene in forex markets if it acts on its own, and would probably have more success by extending its monetary policy easing.

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