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Central Bank Watch: BOC, RBA, & RBNZ Rate Expectations; AUD, CAD, & NZD Positioning

Central Bank Watch: BOC, RBA, & RBNZ Rate Expectations; AUD, CAD, & NZD Positioning

Christopher Vecchio, CFA, Senior Strategist

Central Bank Watch Overview:

  • The trio of central banks associated with the Australian, Canadian, and New Zealand Dollars remain in a holding pattern, even as global growth conditions improve, particularly in Asia and Europe.
  • Although there are some signs that re-openings are leading to rising COVID-19 caseloads again, it’s too early to say that progress will need to be rolled back. There’s little compelling reason for the BOC, RBA, and RBNZ to move interest rates away from current levels, enhanced by QE.
  • Retail trader positioning suggests that the commodity currencies are on mostly neutral footing.

Global Economy is Normalizing, Central Banks are Not

The global economy is slowly but surely progressing towards re-opening amid the coronavirus pandemic, but many uncertainties remain. Beyond the COVID-19 outbreak, geopolitical stress has quietly been on the rise, be it related to Brexit, the US-China trade war, or the US presidential election cycle.

The trio of central banks associated with the Australian, Canadian, and New Zealand Dollars remain in a holding pattern, even as global growth conditions improve, particularly in Asia and Europe. There has yet to been a solid reason or reasons for the BOC, RBA, and RBNZ to move interest rates away from current levels during, enhanced by QE, through 2020 (and likely beyond).

We will continue to monitor the commodity currencies in particular, as even though the Australian, Canadian, and New Zealand Dollars no longer hold the relative yield advantage that defined ‘the carry trade,’ these currencies retain significant economic exposure to agriculture and base metals, making them prime vehicles for speculation around a rebound in global growth. As such, market-based measures of interest rate expectations will prove sensitive to investors’ concerns regarding the global economy’s economic rebound.

Bank of Canada to Keep Rates Low Through June 2021

New contracts coming live have expanded the interest rate horizon for the Bank of Canada. BOC rate expectations remain stable, even as investors are now able to look out to June 2021. Nevertheless, Bank of Canada interest rate expectations have been steady for several months now.

Bank of Canada Interest Rate Expectations (AUGUST 11, 2020) (Table 1)

Central Bank Watch: BOC, RBA, & RBNZ Rate Expectations; AUD, CAD, & NZD Positioning

At the end of April, there was a 55% chance of a 25-bps interest rate cut in December 2020, according to Canada overnight index swaps. Now, there is a 17% chance. It still holds that the Bank of Canada’s efforts along the interest rate front are finished. If the BOC does anything else, it may not be to cut interest rates to zero – or to negative territory. Whereas the threat of negative rates looms for other major currencies (see: New Zealand Dollar), the Canadian Dollar is not haunted by this threat at present time.

IG Client Sentiment Index: USD/CAD Rate Forecast (AUGUST 11, 2020) (Chart 1)

Central Bank Watch: BOC, RBA, & RBNZ Rate Expectations; AUD, CAD, & NZD Positioning

USD/CAD: Retail trader data shows 52.65% of traders are net-long with the ratio of traders long to short at 1.11 to 1. The number of traders net-long is 6.85% lower than yesterday and 17.94% lower from last week, while the number of traders net-short is 21.41% higher than yesterday and 21.09% higher from last week.

We typically take a contrarian view to crowd sentiment, and the fact traders are net-long suggests USD/CAD prices may continue to fall.

Yet traders are less net-long than yesterday and compared with last week. Recent changes in sentiment warn that the current USD/CAD price trend may soon reverse higher despite the fact traders remain net-long.

Reserve Bank of Australia’s Yield Curve Control

The Reserve Bank of Australia’s July policy meeting didn’t rock the boat, which isn’t a surprise: the RBA has already dropped its main overnight interest to an all-time low of 0.25%, implemented its own quantitative easing (QE) program, and issuing forward guidance to keep the three-year bond yield at 0.25% for the next three years.

RESERVE BANK OF AUSTRALIA INTEREST RATE EXPECTATIONS (AUGUST 11, 2020) (TABLE 2)

Central Bank Watch: BOC, RBA, & RBNZ Rate Expectations; AUD, CAD, & NZD Positioning

According to Australia overnight index swaps, there is a 51% chance of a 25-bps rate cut at the September RBA meeting. But as the commentary from RBA Governor Lowe would suggest, the central bank is not ready to move rates into negative territory, making any further rate cuts unlikely; the pricing may be a quirk due to the shape of the Australian bond yield curve.

Recall that the RBA, under Governor Lowe’s leadership, has said that it will target the three-year bond yield at 0.25% – the same rate as the overnight cash rate – which is a reasonable assumption that the RBA will keeping its overnight cash rate at 0.25% or lower for at least the next three years.

IG Client Sentiment Index: AUD/USD Rate Forecast (AUGUST 11, 2020) (Chart 2)

Central Bank Watch: BOC, RBA, & RBNZ Rate Expectations; AUD, CAD, & NZD Positioning

AUD/USD: Retail trader data shows 40.55% of traders are net-long with the ratio of traders short to long at 1.47 to 1. The number of traders net-long is 5.37% lower than yesterday and 0.50% lower from last week, while the number of traders net-short is 2.70% higher than yesterday and 4.18% higher from last week.

We typically take a contrarian view to crowd sentiment, and the fact traders are net-short suggests AUD/USD prices may continue to rise.

Traders are further net-short than yesterday and last week, and the combination of current sentiment and recent changes gives us a stronger AUD/USD-bullish contrarian trading bias.

Reserve Bank of New Zealand Backing Away from Negative Rates?

Are negative interest rates coming to New Zealand? Maybe, maybe not. In an interview at the end of June, when asked about the possibility of negative interest rates, RBNZ Governor Orr said "We could…we've been saying to banks, 'get your act together, be prepared, make sure you're able to put a negative sign in front of your wholesale interest rates if we need to go there'."

RESERVE BANK OF NEW ZEALAND INTEREST RATE EXPECTATIONS (AUGUST 11, 2020) (Table 3)

Central Bank Watch: BOC, RBA, & RBNZ Rate Expectations; AUD, CAD, & NZD Positioning

But the RBNZ overnight index swaps (OIS) curve is suggesting there’s a diminished chance of negative rates emerge this year: two weeks, ago, there was a 20% chance; now, there is only a 12% chance of a 25-bps rate cut. The November rate cut pricing remains well-below where it was in May, when it peaked just below 30%.

IG Client Sentiment Index: NZD/USD Rate Forecast (August 11, 2020) (Chart 3)

Central Bank Watch: BOC, RBA, & RBNZ Rate Expectations; AUD, CAD, & NZD Positioning

NZD/USD: Retail trader data shows 43.39% of traders are net-long with the ratio of traders short to long at 1.30 to 1. The number of traders net-long is 5.47% higher than yesterday and 19.42% higher from last week, while the number of traders net-short is 4.43% higher than yesterday and 10.66% lower from last week.

We typically take a contrarian view to crowd sentiment, and the fact traders are net-short suggests NZD/USD prices may continue to rise.

Yet traders are less net-short than yesterday and compared with last week. Recent changes in sentiment warn that the current NZD/USD price trend may soon reverse lower despite the fact traders remain net-short.

--- Written by Christopher Vecchio, CFA, Senior Currency Strategist

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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