Australia, NZ dollars squeezed as yield spreads shrink

SYDNEY: The Australian and New Zealand dollars were on the defensive on Friday as mounting wagers on US rate hikes boosted the greenback broadly, sending the kiwi to three-month lows.

A hawkish swerve from the Federal Reserve has seen markets price in 38 basis points of tightening this year and shrunk the Antipodeans’ yield premium over Treasuries.

That left the Aussie flat at $0.7007, having lost 0.4% for the week so far.

Resistance looks tough around $0.7088, while a break of $0.6979 would risk a retreat toward $0.6834.

The kiwi dollar was stuck at $0.5751, having shed 1.3% for the week to breach chart support at $0.5770. The next bear target is $0.5681.

The Reserve Bank of Australia kept its rates on hold at 4.35% this week and signalled it had time to wait to judge how its three previous hikes were working on the economy.

Markets now imply only a one-in-four chance of a further rate rise at the next meeting in August and have just 13 basis points of future tightening priced in.

That could change following the release of May consumer price data on June 24 where the headline index is expected to ease slightly, but core inflation could nudge higher.

“Underlying inflation is expected to remain too high and will keep the RBA on alert to monitor if inflation is more persistent than expected,” said Trent Saunders, a senior economist at CBA. He sees headline CPI running at an annual 4.1% and the trimmed mean firming to 3.5%, with a risk to the upside.

“There continues to be a lot of uncertainty around the extent to which businesses pass higher costs on,” he added.

“The available data suggest that the more severe inflation scenarios considered in the immediate aftermath of the Middle East conflict have so far not materialised.”

Of the major local banks, CBA, NAB and ANZ believe rates have now peaked, while Westpac still looks for at least one more hike.

The dovish outlook has helped Australian bonds outperform US debt, with 3-year yields down at 4.437%.

That has narrowed the spread over Treasuries to 25 basis points, from a peak around 97 basis points in March. New Zealand bonds have also outperformed, with 10-year yields down at 4.453% and almost dead in line with Treasuries.

They had paid as much as 57 basis points more back in March.