Australia, NZ dollars skid as coronavirus spread upends policy bets

Market trading boards are seen at the Australian Securities Exchange in Sydney, Friday, February 9, 2018. ( AAP Image/Ben Rushton) NO ARCHIVING

SYDNEY, Aug 17 (Reuters) – The Australian and New Zealand dollars took a hit on Tuesday as unwelcome coronavirus news threatened to upend the outlook for monetary policy in both countries, pulling domestic bond yields sharply lower.

The most dramatic development came in New Zealand where authorities reported a new community case of COVID-19, the first since February and a sudden risk to what has been one of the world’s strongest economic recoveries.

That came just a day before the Reserve Bank of New Zealand (RBNZ) had been expected to raise interest rates to cool the economy, and to signal a string of further increases.

Now, investors were having second thoughts given the risk of a sudden lockdown in Auckland and the country’s relatively low vaccination rates.

Markets for interest rate swaps moved quickly to scale back their implied tightening to less than 21 basis points, from more than 30 basis points early in the day.

The probability of a quarter-point hike fell to 82%, from more than 100%, while the market completely erased any chance of a half-point increase.

One-year swap rates also fell as investors reconsidered how fast and far the RBNZ would tighten. Cash rates have been at a record low of 0.25% since last March when the central bank eased aggressively as the pandemic first hit.

The kiwi dollar slid almost 1% to $0.6954, the sharpest daily drop in almost six weeks, and breached important chart support at $0.6969.

The Aussie was not far behind, losing 0.4% to a one-month low at $0.7302 and uncomfortably close to the July trough of $0.7290.

Australia has been struggling with a coronavirus outbreak for weeks, which has steadily spread to lock down Sydney, Melbourne and Canberra.

The Reserve Bank of Australia (RBA) has been optimistic the economy would rebound quickly once the lockdowns eased, leading it to trim its bond buying programme.

Yet minutes of its Aug. 3 policy meeting showed it was also ready to act if the health news got worse.

“The RBA’s assumptions around COVID-19 restrictions, and therefore the near term economic outlook, look more and more optimistic as time goes on,” said CBA economist Kristina Clifton.

“We see a clear risk that the RBA reverses the taper decision as COVID-19 case numbers rise and the share of the population subject to lockdowns increases.”

That risk has dragged 10-year bond yields down to 1.16%, just a whisker above seven-month lows and 10 basis points below comparable U.S. yields.

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