FxWirePro: What drives bearish AUD/NZD in Q2’2018? FX derivatives strategies

In 2018, the main bearish risk to AUD (aside from China-related weakness) comes from a lift in market volatility. We expect both monetary policy divergence and modestly weaker commodity prices to push the currency lower. We are also expecting the pace of domestic growth momentum to decline in 2H18, after a boost from net exports in the first half of the year (refer 1st chart).

NZD was not immune from the broad forecast upgrades we pushed through earlier in the month. Domestic growth has weakened, the RBNZ’s inflation forecasts have been revised materially lower, net immigration is slowing and business confidence has plunged since the change of government (refer 2nd chart).

Over 2018, we still see scope for under-performance from NZD, though this is now more contingent on ongoing confirmation that the RBNZ can credibly lag policy normalization in the G3+, and perhaps on evidence that real assets (equities, housing) are threatened by late-cycle growth dynamics and government intervention.

AUDNZD in a neutral state near term, a 1.0700-1.0800 range likely to contain.

Medium-term perspectives: During the next month there’s potential for a further decline below 1.07, given recent interest rate and commodity movements have slightly favored the NZD.

Trade DNT’s: Contemplating both short term and long term technical of AUDNZD, we recommended certain yields but a limited loss structure via double-no-touch optionality in next 1-month, AUDNZD 1m DNT with 1.05/1.0950 strikes (maintained 50 pips as a tolerance on either side) – we are reluctant to sell volatility outright given the unquantifiable risk. However, shorting volatility and fading the spike in skew through limited loss structures (i.e. DNT’s) could be appropriate.

Alternatively, deploy short hedge using futures contracts of mid-month tenors with a view to arresting bearish risks below 1.07 levels.

These are the conviction trade and it is wise to jack up speculative leveraged positions in order to fetch exponential yields than the spot moves.

Currency Strength Index: FxWirePro's hourly AUD spot index is flashing at -57 levels (which is bearish), while hourly NZD spot index was at shy above 3 (neutral) while articulating (at 06:42 GMT). For more details on the index, please refer below weblink:

http://www.fxwirepro.com/currencyindex.

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