GBP/NZD Recovery Spluttering after Gravity Wins Above 1.95

• GBP/NZD spluttering after rebound stalled around 1.96
• Could struggle to sustain moves above 1.95 short-term 
• But risk aversion & market volatility also limit downside 

Image © Adobe Stock

The Pound to New Zealand Dollar exchange rate’s latest attempt at recovery lost momentum early in the new week as global markets settled following an earlier sell-off, leaving Sterling at risk of listing lower over the coming days.

New Zealand’s Dollar was one of the biggest fallers among major currencies during the opening sessions of the week after a sell-off in international markets pushed the NZD/USD exchange rate to its lowest since May 2020 and lifted GBP/NZD briefly to two-month highs above 1.96.

But the Pound to New Zealand Dollar exchange rate’s climb above was reversed within hours when a fresh bid for stock markets and loss of momentum for perceived safe-haven currencies suggested an ebbing of the earlier risk aversion that had swept international markets lower early in the new week.

“We took profit on the short GBP position (vs NZD) we established into the MPC meeting last week and are tactically neutral currently, though still bearish medium-term,” says Adam Cole, chief FX strategist at RBC Capital Markets.

The Pound to Kiwi exchange rate has been volatile in recent trading after its rally over the course of Friday, Monday and early on Tuesday was preceded by a sharp sell-off in Sterling exchange rates following last Thursday’s Bank of England (BoE) monetary policy decision and forecast update. 

Above: Pound to New Zealand Dollar rate shown at daily intervals with Fibonacci retracements of February decline indicating possible areas of short-term technical resistance for Sterling and support for the Kiwi. Click image for closer inspection.

“The BoE was last week candid in its gloomy assessment for UK economic outlook which has encouraged some commentators to describe the MPC as ‘reluctant’ to announce the rate hikes that are necessary to restore inflation back to target,” says Jane Foley, head of FX strategy at Rabobank. 

“It expects that UK GDP growth will slow sharply over the first half of the forecast period and that for quarter GDP growth in 2023 is likely to be broadly flat. The implication is that the interest rate tightening cycle could be sharp, but short-lived,” Foley said in a Monday review of the outlook for Sterling. 

The BoE’s latest forecasts suggested strongly that it’s unlikely to raise UK interest rates as far as financial markets assume would be necessary in order for inflation to be brought down to the targeted 2% level in the coming years, dealing a blow to Sterling at the time.

May’s forecasts suggested that inflation would fall to 1.3% and substantially below the targeted level if the BoE meets market expectations for Bank Rate to be lifted from 1% this month to 2.5% by February 2023, while also suggesting the economy would likely fall into recession soon after then.

“This was much further adrift from the 2% target than its alternative 2.2% prediction, which is based on Bank Rate remaining at 1.0%. Indeed, from these projections, we calculate that the MPC would need to increase Bank Rate by only 30bp over the next year, in order for CPI inflation to hit the 2% target on the nose,” says Samuel Tombs, chief UK economist at Pantheon Macroeconomics. 

Above: Bank of England forecasts for GDP growth and inflation under differing scenarios in which Bank Rate either remains at 1% or is raised to 2.5%. Source: Pound Sterling Live, Bank of England. Click image for closer inspection.

The BoE’s latest forecasts imply a significant risk of a market disappointment over UK interest rates that is an outright headwind for Sterling and one which has only been offset in GBP/NZD this week by volatility in international markets and the resulting losses for the Kiwi Dollar. 

“The near term outlook remains bearish, with potential to break below 0.6300 multi-day. Global risk aversion is combining with the Fed-supported USD,” say Imre Speizer, head of NZ strategy at Westpac, in reference to NZD/USD. 

While some analysts expect the all-important NZD/USD pair to remain under pressure in the days ahead, the fragile condition of the main Sterling exchange rate GBP/USD could make it difficult for the Pound to New Zealand Dollar rate to capitalise much on any further weakness in the Kiwi. 

“It’s all still very global and local factors are only playing a role at the fringes,” says David Croy, a strategist at ANZ, in reference to NZD/USD.

"As time goes on, market fears of a deeper correction lower continue to percolate; that’s weighing on sentiment. A move to 0.6230 (61.8% Fibo of the 2020/21 0.5470/0.7465 rally) would be a disaster," Croy said on Tuesday. 

Above: NZD/USD at weekly intervals with fibonacci retracements of 2020 rally indicating possible areas of technical support for the Kiwi Dollar and resistance for the U.S. Dollar. Shown alongside GBP/USD Click image for closer inspection.

Concerns about the Chinese economic outlook and resulting implications for New Zealand export demand were a key weight around the ankles of the Kiwi before global markets stabilised on Tuesday.

However, all currencies still face the risk of further losses at the hands of the U.S. Dollar while Kiwi itself is potentially also susceptible to a deteriorating domestic economic backdrop which, like elsewhere, is being undermined by recent surges in energy and food costs. 

"Sharply-higher living costs and weaker household balance sheets are expected to weigh on retail volumes and household sector spending in general over 2022," says Mark Smith, a senior economist at ASB Bank. 

The danger for the New Zealand Dollar is that further losses soon push NZD/USD back to 0.6230 and its lowest since the opening quarter of 2020.

However, even in such a bleak scenario for the Kiwi, the weakened state of the equally influential GBP/USD pair means the Pound to New Zealand Dollar rate would still likely struggle to rise above the nearby 1.95 level. 

GBP/NZD always tends to closely reflect the relative performance of Sterling and the Kiwi when each is measured against the U.S. Dollar.