Not no Strategy and tactics Major currency report 4 July 2018

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1 Not no Strategy and tactics Major currency report 4 July 2018 To test your foreign exchange sensitivity please try our online tool fxsnap NZD/EUR forecast NZD/GBP forecast NZD/EUR hedging recommendations (generic) Exporter 0 12 months = Ensure hedging at maximums of policy from spot rates below months + (no filter activation) = Ensure hedging at maximums of policy from spot rates below with any allowable instrument (combination of FECs and collar options for new hedging). 12+ months (filter test) = 2 and 3-year filter test activated. Be at mid points of polciy in 12 to 24 and 24 to 36 months periods. Importer 0-6 months = Ensure midpoints of policy at a spot rate of Moving to halfway between midpoints and maximums of policy at a spot rate of months = Maintain minimums of policy at current levels above Moving to midpoints of policy at months + = No new hedging at current market rates. Use existing hedges. Upcoming key EUR data releases Date (NZT) Release Previous Consensus forecasts (Bloomberg) Impact on EUR 6/7 Halifax House Prices mom 1.5% 0.2% - NZD/GBP hedging recommendations (generic) Exporter 0-12 months = Maintain maximums of policy at and below with any allowable instrument. 12 months + (no filter activation) = Maintain maximums of policy at and below with any allowable instrument (combination of FECs and collar options for new hedging). 12 months + (filter activated) = Filter tests not currently activated. Importer 0 6 months = Clients should ensure a month beyond policy minimums at a spot rate of to be at midpoints of policy months + = Maintain minimums of policy at a spot rate of and above. Upcoming key GBP data releases Date (NZT) 6/7 Release German Industrial Production mom Previous Consensus forecasts (Bloomberg) -1.0% 0.3% Impact on GBP - Source: Bloomberg Source: Bloomberg Page 1 Strategy and Tactics Major Currency Report 4 July 2018

2 EUR CARR CARR Index (Central Assumptions Rate Reaction) Key variables, indicators and trends that drive NZD/EUR cross rate movements depreciation Moderate depreciation Neutral Moderate appreciation appreciation Date: 4 July 2018 NZD/EUR spot rate: Relative variables Current position and outlook NZD/EUR impact (relative to today s spot rate) -3 to +3 1 mth 3 mth 12 mths 1 Monetary policy/inflation RBNZ pushed out the timing of the first interest rate increase until later in Risks are for later rather than sooner. Headline New Zealand CPI is at bottom of the target band, though may pick up towards 2.0% over 2018 on higher petrol prices. ECB have outlined a path to end the current asset-purchasing program. Reducing purchases from $30 billion euros to $15 billion beginning September through to the end of Q4. ECB interest rate increases remain a long way off, signalled in September 2019 at the earliest.euro-area inflation hit the 2% target in June for the first time in more than a year Political stability EU political risks and business uncertainty remain. The increasing number of eurosceptic influence in the EU poses risk to political stability in the future. Increased focus on Germany GDP growth performance Policy uncertainty still appears to be hindering NZ economic growth. Business confidence and firms own activity outlook remain at relatively weak levels. Next couple of months will be important as to how businesses digest government/fiscal direction. Capacity constraints in construction, though export and tourism remain positive. Positive European growth story under threat from the recent soft patch of economic data Technical/ market positioning NZD/EUR fallen below 50 and 200 day moving average Government fiscal balances Average NZD/EUR impact NZ surpluses maintained within latest budget with restraint on new spending initiatives, however economic growth forecasts to derive tax revenue may be overly optimistic. EU budget outlines a strong reform support program to support a closer union post-brexit Page 2 Strategy and Tactics Major Currency Report 4 July 2018

3 EUR charts of the week Over the last fortnight, the NZD/EUR cross rate has fallen from to currently sit at The fall has been driven by independent NZD weakness impacted by weak business confidence (-39 in June per the ANZ measure), global trade fears. and the Reserve Bank of New Zealand maintaining a neutral monetary bias. However, the Euro-area has enough downside risk of its own to suggest the cross rate is bias higher from here. Political uncertainty in Germany remains front of mind. Over the weekend, a rebellion within Angela Merkel s own conservative alliance escalated. Merkel s interior minister, Horst Seehofer, threatened to resign over the dispute with the Chancellor s migration policy. Thankfully, a compromise between the Christian Democratic Union (CDU) and the Christian Social Union (CSU) has been reached preventing the potential collapse of government. The deal proposes a new screening at the Germany-Austria border and a network of transit canters will serve as processing points for migrants. Current Euro-area data has continued to be soft, with final manufacturing PMI printing at 54.9 in June (down from 58.7 in May). New orders for June hit their lowest level since August 2018, currently sitting at 53.2 vs 54.2 in May. The future output index was no different, slipping from 62.2 in May to sit currently at 60.7 for June. Despite the soft patch of data, Euro area inflation has been supportive. Inflation hit the 2% target in June for the first time in more than a year, supported by higher oil prices with Brent crude currently sitting above US$77/bbl. This comes despite German headline inflation falling to 2.1% yoy in June. The improving sentiment around Euro-area inflation will bring confidence to the European Central Bank and their plans to wind down the current quantitative easing program at the end of Q4 (EUR positive). Markets will be looking towards the European Central Bank s Rates decision later this month with the hope that further monetary policy guidance will be provided. Trade uncertainties continue to linger over the Euro-area, with Trump tweeting that unless certain European Union (EU) tariffs long placed on the US were removed, the US would be placing a 20% tariff on EU cars. The EU then threatened to impose new retaliatory tariffs worth $300 billion if the US moves forward. The EU also put tariffs on 2.8 billion of high-profile US goods in retaliation for duties the US placed on its metal exports. To add more uncertainty to the trade disputes with the US, the White House has prepared a draft bill that allows it to unilaterally increase tariffs without the approval of Congress. Looking ahead, we maintain the view that the NZD/EUR cross rate will trade across the page in the shortterm. The risks are slightly bias to the upside with the possibility of more hawkish commentary from the Page 3 Strategy and Tactics Major Currency Report 4 July 2018

4 RBNZ towards the end of the year as inflation pressures emerge and the market begins to adjust expectations (NZD positive). Furthermore, if we continue to see soft Euro-area data print combined with an escalation in the tit for tat trade war we could see further EUR weakness providing upward pressure to the cross rate. Page 4 Strategy and Tactics Major Currency Report 4 July 2018

5 GBP CARR CARR Index (Central Assumptions Rate Reaction) Key variables, indicators and trends that drive NZD/GBP cross rate movements depreciation Moderate depreciation Neutral Moderate appreciation appreciation Date: 4 July 2018 NZD/GBP spot rate: Relative variables Current position and outlook GBP impact (relative to today s spot rate) -3 to +3 1 mth 3 mths 12 mths 1 Monetary policy/inflation The market is currently pricing in one further increase from the Bank of England this year. RBNZ have maintained status quo of no prospect of interest rate increases until Q Inflation currently at the bottom end of the band (1.1%yoy). The market has moved forward its expectation for the BoE to raise rates from February 2019 to December Brexit Brexit still remains clouded with uncertainty. Many issues remain unresolved including the Northern Ireland border issue, the EU customs issue and a fractured UK cabinet. There is increasing anxiety about the risk of negotiations with the EU27 failing to reach an agreement GDP growth performance UK consumers concerns appeared to have eased in May. Latest UK fiscal update forecast 1.5% growth in 2018, followed by 1.3% in both 2019 and UK GDP for the first quarter was revised upward from 0.1%qoq to 0.2%qoq Household consumption Latest signs shown that consumption has rebounded in May following the slow start to the year. Trend is looking to continue over the coming months Technical/market positioning NZD/GBP has fallen sharply to trade below the 50 and 200-day moving average Average NZD/GBP impact Page 5 Strategy and Tactics Major Currency Report 4 July 2018

6 GBP charts of the week Over the last two weeks the NZD/GBP cross rate has fallen sharply, currently sitting at Earlier in the fortnight, the Bank of England (BoE) left rates unchanged but chances of an interest rate increase in August rose after BoE s Chief Economist, Andy Haldane, joined two other members of the monetary policy committee, voting for an immediate increase in the BoE s base rate, currently 0.50%. Following the meeting, the market shifted expectation forward for the next rate increase from February 2019 to December Mark Carney, the BoE s governor, despite voting to hold rates unchanged stated that if the economy were to develop broadly in line with the BoE s projections, an ongoing tightening of monetary policy over the forecast period would be appropriate (GBP positive). Furthermore, the shift of expectations to August has been supported by a revision of United Kingdom (UK) GDP data. The Office for National Statistics revised Q1 UK GDP growth upward from 0.1%to 0.2% qoq. Looking ahead, Brexit uncertainty continues. However, Theresa May will try to break the current negotiation deadlock by proposing a third option for the UK s customs deal with the EU later this week. This is after two earlier proposals sparked Cabinet divisions. She will ask the cabinet to back a plan that would see Britain collect duties on imports at the rate of the EU s common custom tariff. This would effectively make Britain the EU s tax collector and would hopefully avoid the need for border checks between the Republic of Ireland and Northern Ireland. The Treasury Committee will also announce that MP s must be given expert advice from the BoE on any likely economic damage from Brexit before they vote on the withdrawal deal later this year. Further support to the GBP was provided by Robert Peston, a British political reporter who has cited government insiders in saying May s Brexit plan is the softest possible exit. Over the short term we see limited upward pressure on the cross rate given the soft outlook for NZ GDP growth/weak business confidence and the current divergence between the BoE and the Reserve Bank of New Zealand (RBNZ). However, over the medium term there is enough downside risk to Brexit and upside risk from improving trade sentiment to suggest a bias higher on the cross rate Page 6 Strategy and Tactics Major Currency Report 4 July 2018

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8 NZD/JPY forecast NZD/CAD forecast NZD/JPY hedging recommendations (generic) Exporter 0-12 months = Maintain policy maximums with any allowable instrument at spot rates of and below. 12 months + (no filter activation) = Maintain maximums of policy at spot rate of 76.0 and below with any allowable instrument (combination of FECs and collar options for new hedging). 12 months + (filter test) = Not filtertest activated. Importer 0 6 month: Target for any necessary minimum hedging requirements. Ensure midpoints of policy at a spot rate of with staggered orders starting from month: Ensure minimums of policy at a spot rate of Place staggered orders higher to lift hedging percentages to midpoints of policy at a spot rate of Upcoming key JPY data releases Date (NZT) Release Previous Consensus forecasts (Bloomberg) Impact on JPY 19/7 Balance of Trade /7 Inflation Rate yoy 0.7% 0.1% - NZD/CAD hedging recommendations (generic) Exporter 0 12 months = Exporters should ensure at half way between midpoints and maximumsof Policy at spot rate below Maximums of Policy at months + (no filter activation) = Exporters should be halfway between midpoints and maximum of Policy following previous movements down to No new hedging at current market rates. 12 months + (filter activated) = Contact us for specific recommendations. Importer 0 12 months = No new hedging at current market rates. Importers should ensure minimums of policy at a spot rate <0.9250, with orders from to to lift to midpoints of policy. Upcoming key CAD data releases Date (NZT) Release Previous Consensus forecasts (Bloomberg) Impact on CAD 7/7 Unemployment rate 5.80% 5.80% - 11/7 BoC Monetary Policy Meeting 1.25% 1.50% Source: Bloomberg Source: Bloomberg Page 8 Strategy and Tactics Major Currency Report 4 July 2018

9 JPY CARR CARR Index (Central Assumptions Rate Reaction) Key variables, indicators and trends that drive NZD/JPY cross rate movements depreciation Moderate depreciation Neutral Moderate appreciation appreciation Date: 4 July 2018 NZD/JPY spot rate: Relative variables Current position and outlook NZD/JPY impact (relative to today s spot rate) -3 to +3 1 mth 3 mth 12 mth 1 Monetary policy/inflation Late 2019 is the expected timing for the first OCR hike by the RBNZ, though risks have shifted from potentially sooner to later. BoJ is expected to maintain ultra loose monetary policy settings for some time as inflation is unlikely to reach the 2.0% target in the near-term. The quarterly outlook report reaffirmed this, as inflation outlook remains relatively weak. The BoJ will continue to pursue the QE programme until the 2.0% inflation target is reached Global investor sentiment Increasing nervousness in equity markets that global monetary policy will become less loose, led by the US. Risk may accelerate over the second half of Any global risk aversion event in relation to US trade hostilities or potential equity market corrections would spark safe haven capital flows to support the Yen. Risk-off sentiment has heightened following Trump s protectionist trade policies and retaliatory threats from it s major trading partners GDP growth performance Domestic political uncertainty may hinder NZ growth in coming quarters given business confidence and activity outlook have been declining. BoJ remain positive around long run economic outlook, with growth likely to remain above potential over 2018/2019. However, real wages and consumer confidence falling could dampen this outlook Technical indicators The NZD/JPY cross rate has fallen below for the first time in However, over 2018, the NZD/JPY cross rate has failed to sustain any movement below the level for any considerable length of time Average NZD/JPY impact Page 9 Strategy and Tactics Major Currency Report 4 July 2018

10 JPY charts of the week Over the past fortnight, the NZD/JPY cross rate has depreciated from to currently trade at We have seen the NZD/JPY cross rate fall below the key support level of on multiple occasions in 2018 thus far, however fail to sustain the break for any considerable length of time. The US-China trade negotiations have been topsy turvy from the start with periods of aggression simmered down with consolitary tweets and statements from US and China respectively. However, this has not been the case this time around, with protectionist rhetoric transforming into action as the first lot of tarrifs of USD34 billion on Chinese imports set to take effect on 6 July. China has also decided to fight fire with fire, signalling that they will match the US tariffs dollar for dollar targeting primarily the auto and agriculture industries. As a result, we have seen the JPY strengthen off the back of safe haven inflows arising from the hightened geopolitical tensions. Looking ahead, should US and China fail to reach a trade cease-fire this week, prior to the imposition of the tariffs, then the liklihood of a full-blown tit-for-tat trade war escalates (JPY positive). Though given the flip-flop nature of Trumps trade decisions thus far, we can not rule out the possiblity of the impending tariffs being deffered. Should this be the case, we would expect risk-off sentiment to ease once more which would put upward pressure on the NZD/JPY cross rate. Meanwhile, trade relations between the European Union (EU) and US are also damaged following Trumps threat to impose a 20% tariff on all imports of cars assembled in the EU. The EU has issued a threat of it s own to impose tariffs on USD300 billion of US goods should US place tariffs on European cars. If these threats turned into action, we would expect safe haven inflows to flow into the JPY. The JPY strength has been driven by the hightened risk-off sentiment. However, underlying domestic data in Japan has been weak with consumer confidence falling yet again to 43.7 for June (43.8 expected) and inflation printing at 0.7% yoy in May, well below the 2.0% target level (see graph below). As a result of the weaker than expected domestic data, the Bank of Japan are said to be planning to revise inflation targets lower to approximately 1.5%yoy for 2019, previously 1.8% (JPY negative). Looking ahead, geopolitical tensions arising from Trumps protectionist trade policies are likely to provide JPY strength in the form of risk aversion inflows. Though, given the Japanese economy is underperforming, should geopolitical tensions subside, we would expect a reversal of the inflows (JPY weakness). Ultimately, we expect the NZD/JPY cross rate to remain range bound between to over the next 6 to 12 months. Page 10 Strategy and Tactics Major Currency Report 4 July 2018

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12 CAD CARR CARR Index (Central Assumptions Rate Reaction) Key variables, indicators and trends that drive NZD/CAD cross rate movements depreciation Moderate depreciation Neutral Moderate appreciation appreciation Date: 4 July 2018 NZD/CAD spot rate: Relative variables Current position and outlook NZD/CAD impact (relative to today s spot rate) -3 to +3 1 Monetary policy/inflation 2 Housing market 3 GDP growth performance 4 Commodity prices RBNZ interest rates increases delayed until later in 2019 and more likely early Small probability next move will be a cut (not our base case). New Zealand CPI at bottom of target band but headline CPI to pick up towards 2.0% over 2018 on petrol prices. NZ annual real GDP growth outlook softening to 2.0% - 2.5% over next one to two years (RBNZ and Treasury more upbeat). Market pricing of a July rate hike by BoC has increased from 44% to 76% after a hawkish message from BoC Governor Stephen Poloz stating the economy is performing near full capacity with historically low unemployment, and although May inflation came in at 2.2% (below expectations of 2.6%), still within BoC s target range. NZ housing activity and house price growth stabilising, but requires ongoing monitoring. Fundamental outlook remains supportive, with supply still catching up and net immigration strong. RBNZ has applied modest loosening to macro-prudential policies (LVRs). Demand being constrained but so too capacity (and crowding out of private sector from new public sector building activity). Canadian housing resale activity has remained soft into the second quarter, as the housing market continues to adjust to new mortgage guidelines and higher borrowing rates. BoC predicts a partial recovery in housing activity supported by consumption and labour income growth. Policy uncertainty still hindering NZ business confidence, firms own activity outlook and hence economic growth. Capacity constraints in construction, but export and tourism remain positive. BoC revised economic growth forecast for 2018 down due to housing and export markets, however, raised the 2019 outlook. In line with this, Canada s GDP growth for April came in at 2.50%yoy in line with market expectations however below the last period s figure of 2.90%yoy. GDT price index fell 5.0% at the July auction, with whole milk powder prices down 7.3%, however a significant increase in volume sold offset negative impacts of lower prices on the NZD. Oil prices have supported the CAD with WTI oil reaching 3.5-year highs. 1 mth 3 mth 12 mth Average NZD/CAD impact Page 12 Strategy and Tactics Major Currency Report 4 July 2018

13 CAD charts of the week Over the past fortnight significant NZD weakness and moderate CAD strength against the USD, has seen the NZD/CAD cross rate depreciate from , to a low of (refer to chart below). The NZD/CAD cross rate has recovered slightly over the last two trading sessions, however, it remains to trade at the bottom of this range at The NZD has depreciated on the back of the following factors:- Dovish comments made at the June RBNZ Monetary Policy Meeting, delaying interest rate increases until later in 2019 (more likely 2020), and implying there is a small probability that the next move will be a cut. Quarterly survey of business opinion saw the business confidence index at -20 in Q2 compared to -11 in Q1, showing business confidence at 7-year lows. NZD following CNY lower as US/China trade tensions heightened, and China s central bank (PBoC), cut the reserve ratio by 50bps following signs of softer Chinese growth momentum. (The NZD has recovered slightly after reaching two-year lows against the USD earlier this week, following PBoC Governor making a statement that China will keep the CNY stable at a reasonable and balanced level). The CAD has found support from oil prices up to three and a half year highs (WTI currently $/bbl vs 65.3 $/bbl a fortnight ago). Furthermore, growth in domestic manufacturing data came in at the fastest pace in seven years in April, supporting an interest rate hike by the Bank of Canada (BoC). Pricing of an interest rate hike at the July 11 Monetary Policy Meeting has increased from 44% to 75% over the past two weeks, encouraged by BoC Governor Stephen Poloz making comments last week that reduced some market uncertainty about what impact volatile trade policy will have on BoC monetary policy. Poloz reiterated that BoC are, data dependent not headline dependent and that the Canadian economy is performing close to full capacity. If we see a strong Canadian jobs report released later this week, an increase in the probability of the market pricing in a July rate hike is likely (CAD positive). A number of downside risks to the CAD are still present, as the future of the North American Free Trade Agreement (NAFTA) remains uncertain, with US President Donald Trump announcing he will not sign a new deal ahead of midterm elections in November. Additionally, an increasing number of tariffs from the US along with retaliatory tariffs against the US may have negative impacts on Canadian investment and growth. Page 13 Strategy and Tactics Major Currency Report 4 July 2018

14 However, two rate hikes in 2018 are still expected to occur, we therefore see the NZD/CAD cross rate moving across the page and slightly lower over the short term due to the RBNZ s neutral policy stance in contrast with the BoC signalling rate hikes occurring over the next 18-months. Longer-term (into 2019) we see the NZD/CAD cross rate appreciating from current low levels, as the RBNZ move towards monetary policy normalisation. Page 14 Strategy and Tactics Major Currency Report 4 July 2018

15 Get in touch Stuart Henderson Partner T: M: E:stuart.r.henderson@nz.pwc.com Brett Johanson Partner T: M: E: brett.a.johanson@nz.pwc.com Chris Hedley Director T: M: E: chris.m.hedley@nz.pwc.com James McHardy Director T: M: E: james.c.mchardy@nz.pwc.com Alex Wondergem Associate Director T: M: E:alex.j.wondergem@nz.pwc.com James Butler Treasury Advisor T: E: james.p.butler@nz.pwc.com Tom Lawson Associate Director T: M: E: tom.f.lawson@nz.pwc.com Tom North Treasury Advisor T: E: tom.o.north@nz.pwc.com Sarah Houston Eastergaard Manager T: E:sarah.j.houston.estergaaard@nz.pwc.com Matt Stewart Treasury Analyst T: E:matt.j.stewart@nz.pwc.com Ollie McDowell Treasury Advisor T: E:ollie.a.mcdowell@nz.pwc.com Georgia Bowers Treasury Analyst T: E:georgia.r.bowers@nz.pwc.com Rajeev Verma Treasury Analyst T: E: rajeev.c.verma@nz.pwc.com pwc.co.nz /corporate-treasury-advisory-services/ DISCLAIMER: This report is for PwC retained treasury clients and is subject to the individual agreed engagement letter and the following restrictions. This report should not be reproduced or supplied to any other party without first obtaining our (PwC New Zealand) written consent. We accept no responsibility for any reliance that may be placed on our report should it be used for any purpose other than that set out below and in any event we will accept no liability to any party other than you in respect of its contents. The purpose of the report is to document our current financial market views and generic hedging recommendations. The statements and opinions contained in this report are based on data obtained from the financial markets and are so contained in good faith and in the belief that such statements, opinions and data are not false or misleading. In preparing this report, we have relied upon information which we believe to be reliable and accurate. We reserve the right (but will be under no obligation) to review our assessment and if we consider it necessary, to revise our opinion in the light of any information existing at the date of this report which becomes known to us after that date. This report must be read in its entirety. Individual sections of this report could be misleading if considered in isolation from each other.