NZD likely to drop

CURRENCY: A not so lucky NZD is likely to drop below recent support levels today as many stand aside in the wake of renewed EUR weakness.

A dip towards the 0.8080 level is possible as markets head into the weekend.

RATES: Bond yields are likely to open unchanged, or perhaps a tad higher.

REVIEW

CURRENCY: NZ Q2 employment delivered another erratic result, seeing the NZD drop swiftly through the initial support level. Overnight it marginally recovered before EUR weakness returned to have it trading close to key support.

GLOBAL MARKETS: A pretty quiet night on the data front has seen markets consolidate overnight, with equities flat to slightly higher in the Northern Hemisphere, and bond yields a touch higher. Commodities are also up a touch, buoyed by grains (again!). The USD continues to strengthen.

KEY THEMES AND VIEWS

ALL QUIET ON THE WESTERN FRONT. There was not much news to report overnight, making for a relatively quiet day compared to some of the high jinks of the past few weeks. But what it does do is give one the opportunity to pause and reflect on what's going on out there, and how markets have responded. It has certainly been interesting how the market has shrugged off European concerns, with confidence growing that ECB President Draghi and others thought to be working on a plan behind the scenes to tackle the "hotspots" of the debt crisis. What we have learned in the past is that policy responses tend to be too little, too late. But we have also learned that they've usually been sufficient to stem utter catastrophe, and for some, that's enough to be able to sleep at night. In essence, this is "muddle-through", and as time goes on, the market has learned to live with it. That's not to say we won't see more flare-ups. Indeed, we fully expect them, and we doubt we have even heard the last from Greece, which has been largely forgotten. But they just don't seem to have the same impact. With Europe muddling-through, those in search of yield appear to be shifting down the capital structure, into equities rather than high quality, high yield sovereigns, such as New Zealand government bonds. Is this a risky proposition? It might be, but with the S&P500 earnings yield at around 7%, and the gap between earnings yields and corporate bond yields at its widest level since the 1950s, it's a logical shift to make. It is therefore, possibly not that surprising that we have seen less enthusiastic support for NZ government bonds at the weekly tenders, the last of which failed. But let's not throw the baby out with the bath water: global economic momentum is yet to show signs of basing, so we may be in for more poor economic data, potentially capping bond yields. In addition, for many investors, equities are out of the question, so now that we have had an upward re-rating of bond yields, you would expect natural buyers like reserve managers to start stepping back in.

OTHER EVENTS AND QUOTES

· In a speech yesterday, RBNZ Governor Bollard highlighted that it was global, rather than local factors giving us grief on the NZD front, noting that "unconventional policies can have unconventional side effects. We are currently observing spillovers from large economy QE impacting capital flows and exchange rate pressures in small open economies. Continuing exchange rate pressure is problematic for a country like New Zealand".

NZD/USD: Lightening might strike twice…

A double dose of poor news on the NZD front may well see it through support around 0.8100USD early this morning. Overnight comments from RBNZ Governor Bollard around the vulnerability of the NZD to carry trade-related capital flows should keep holders wary.

Expected range: 0.8080 - 0.8135

NZD/AUD: Underwater…

The differing employment reports, albeit different periods, was enough to see this cross drop through support at 0.7690. Today this level should provide good resistance with NZD buyers around 0.7650 remaining patient.

Expected range: 0.7650 - 0.7690

NZD/EUR: Weakness returning…

Despite initial moves lower on this cross the EUR overnight has slipped against the USD. Another move higher is quite possible to squeeze out those anticipating the NZD would lead the move lower.

Expected range: 0.6580 - 0.6620

NZD/JPY: Not a large bounce…

The weaker NZD should help keep this cross close to support levels today. Expect more buying demand should it slip below 63.50.

Expected range: 63.40 - 64.00

NZD/GBP: Trapped again…

Topside resistance for this cross just above the 0.52GBP level should ensure that it does very little today. Sellers of NZD positioned above this level may well lose their patience overnight.

Expected range: 0.5175 - 0.5205

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