December 2017

New Zealand Update

The latest dairy auction (December 19th) saw prices decline by 3.9%. Whole milk which is a key price indicator for the Fonterra payout was down 2.5%. Analysts have suggested that farmers should brace for an even lower Fonterra payout than the recent revised payout forecast (see below). This drop coincides with dry conditions in NZ meaning farmers are under pressure. Analysts have been expecting the dry conditions to boost prices but it would seem that recent higher prices, notably for butter, have triggered consumer overriding the immediate impact of the dry season.

Fonterra’s payout forecast for season 17/18 has been revised down from $6.75/KgMS to $6.40/KgMS. This was not unexpected given the trend in recent dairy auctions. The forecast dividend to Fonterra shareholders had earlier been cut to 35-45 cents on the back of the Danone compensation decision.

New Zealand’s terms of trade rose 0.7% in the last quarter to a record 44 year high; beating that of July 1973. Export prices fell 1.9% while import prices fell 2.6%. Imports saw a fall of 12% in petroleum product prices.

The NZ commodity price index fell further in November down 0.9% but up 6% on an annual basis. In NZD terms the index was up 1.5% and 12% year on year. Meat prices fell 3.2% month on month and dairy prices eased 0.4%. Dairy prices fell, meat prices held up with horticulture prices rising 3.9%. Kiwifruit in particular benefited from positive market conditions.

New Zealand Dollar/Interest Rates

New Zealand Dollar

NZD/USD is currently trading at .6995 NZDTWI is currently marked at 73.90. On both measures the local currency is weaker than the 3rd quarter when we last posted. The weakness has played out as we posited it might.

The change of government in New Zealand has resulted in some uncertainty about policy direction over coming months. While substantial change is unlikely in the short term/medium term, there remain questions about how the announced changes to New Zealand’s foreign investment regime, immigration policy and minimum wage regulation will impact economic outcomes and capital flows. In addition, the USD Federal Reserve has continued to normalize interest rates. This has narrowed the gap between NZ rates and US rates across the yield curve. From a cash carry perspective, NZD is less attractive than it was vs USD.

Most models now have NZD slightly undervalued (but not materially so) on both a short term and a long term basis. Risk remains to the downside.

New Zealand Interest Rates

NZD cash rate is 1.75%. The NZ 10yr bond rate is 2.75%. The RBNZ remains on hold for the foreseeable future. In New Zealand, the yield curve continues to flatten driven by moves in the US market in particular. Talk around the unsustainability of the momentum in the US economy, and in New Zealand, have commentators speculating on coming economic slowdowns, and continuing interest by asset allocators to buy bonds.

We see short date rates relatively unmoved in the coming months. New Zealand longer bonds will be captive to moves in offshore markets, and particularly the US.

Reading the Charts

The NZD has seen a broad decline on the back of the election result. There have however been signs that this may be poised to bottom out and perhaps correct.

US

Last updated 12/12/17, Source: Reserve Bank of New Zealand, Reuters, NZFMA

As in our last update, the NZ economy remains in good shape although the election did have a negative impact which has continued through the rest of the year. The decline in dairy auction prices has aided this but this may change due to developing dry climatic conditions across much of the country.

Euro

Last updated 12/12/17, Source: Reserve Bank of New Zealand, Reuters, NZFMA

The global market continues to influence the movement of the NZD with geopolitical concerns and the status of the USD dominating movements. The relative strength of commodity prices across the board, is supportive and a drought would further that prospect.

UK

Last updated 12/12/17,  Source: Reserve Bank of New Zealand, Reuters, NZFMA

The current market trend according to the charts is clearly to the downside. The expectation however is that there is likely to be stabilisation at these levels with a reasonable prospect of some correction to the upside. Given the time of year however any rally is likely to be more of a drift and sideways movement is the standard expectation through the Christmas/summer holiday period.