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Eureka Europe!                        2   Economic Outlook
                                          The risks emanating from Europe still loom large. But there are
Europe’s Noose Tightening             4   still question marks about the extent of global slowdown it will
                                          engender, and the impact on New Zealand‟s economy and
NZD/USD: Testing Times                7   inflation. Meanwhile, US economic data have been quietly
                                          improving. Domestically, the hard indicators continue to print
                                          solid, even a bit above expectations. Sure, there has been some
The BNZ OIS-ter: NZ Rate Hike
                                          softening in domestic confidence (world risk related most likely,
Expectations Crushed                  9   but maybe a bit of post-RWC hangover and/or uncertainty around
                                          this weekend‟s general election creeping in too). Regardless,
Key Fixed Interest Views             10   sentiment has not been shattered. All up, the risks around the
                                          economic outlook have increased over recent weeks but there
Interest Rate Strategy: Volatility   11   has been plenty in the hard data to keep the underlying domestic
                                          recovery story on track. We anticipate the remaining upcoming
Money Market Strategy                13   partial indicators for Q3 to continue that theme. Meanwhile,
                                          softer looking PPI and CGPI data reinforce our view of
                                          moderating near term inflation, but it is not one-way traffic with
NZ Credit Markets                    14   inflation expectations remaining stubbornly high and some
                                          inflation upside potential coming from a lower NZD.
Data Review                          18
                                          Interest Rate Outlook and Strategy
Key Upcoming Releases                21   It was only a matter of weeks ago – 27 October to be precise –
                                          that the RBNZ reiterated its tightening bias, albeit a watered
Quarterly Forecasts                  23   down one, and conditional. Now the markets are implying the
                                          Bank will capitulate to an easing bias. We are not sure Dr Bollard
Forecasts                            24   will cede to this. Sure the risks around the outlook have
                                          increased, but the domestic data and particularly the medium
                                          term inflation outlook simply do not warrant it. Not yet anyway
Calendar                             25   and especially with a lower NZD already providing the equivalent
                                          of circa 170bps of interest rate cuts relative to RBNZ projections.
Contact Details                      26   With this in mind, we believe the RBNZ will prefer to run a steady
                                          line, both with its December 8 OCR decision (at 2.50%) and
                                          forward guidance. This leads us to hold an upward bias to
                                          domestic rates across the curve as current rate cut market
                                          expectations are slowly priced out.

                                          Currency Outlook
                                          The NZD is facing stiff headwinds from ongoing gyrations in the
                                          European debt crisis. We must admit that the inability of
                                          European political leaders to agree on a clear plan is starting to
                                          test our, and the market‟s, resolve. For now, we maintain our
                                          view that the EU rescue plan will be implemented and help to
                                          stabilise sentiment. So, we are holding to the view New
                                          Zealand‟s relatively strong fundamentals will eventually outshine
                                          the current global negatives, such that NZD will still trace an
                                          upward path over the coming 12 months. However, should the
                                          European crisis continue to drag on over the coming weeks, then
                                          expect NZD/USD to be pressured down into the 0.7000 – 0.7200
Eureka Europe!
        Trade data robust                                                           Trade Balance - October 2011
        NZ exports to Europe up strongly                                            $NZ million                                         Actual      Mkt Expected   Previous
                                                                                    Exports                                              3,878         3,760        3,442
        Despite obvious difficulties across the region
                                                                                    Imports                                              4,160         4,270        4,230
        as a whole
                                                                                    Monthly Balance                                      -282           -450        -789
        A now lower NZ dollar helping insure against                                Yearly Balance                                       +627          +490         +689
        future negative impacts
        No need for RBNZ to cut OCR                                                 But the strong export growth to Europe does illustrate that
                                                                                    we need to be careful not to generalise too much about
Pop quiz. From this morning‟s merchandise trade data,                               what the potential direct trade impact of Europe‟s current
what major trading partner region of the world did New                              intense problems will necessarily turn out to be.
Zealand‟s exports in the three months to October lift the
most compared to a year ago? It must be Asia we hear                                The results, to date at least, illustrate that even in a region
you say – after all that‟s where global growth has been                             that has been obviously struggling overall, not all markets
centred. No not Asia. Ah, has to be Australia – NZ‟s largest                        are necessarily down. Averages can hide an awful lot. And
trading partner with a favourable cross exchange rate and                           even in a large falling market, a gain in market share,
that booming mining and minerals sector generating a                                especially for a small player, can generate significant
positive destination for exports. Nope, wrong again.                                growth for that participant.

Europe! Perhaps hard to believe given the abundance of                              This is not to be complacent. Another valid perspective is
bad press and clear economic and financial problems that                            that the trade results bring more concern, not less, given
                                                                                    that Europe accounted for more than a quarter of the
region has been grappling with over recent times. We
                                                                                    7.6% annual growth in total exports over this three month
have not yet looked at the details of what exactly is driving
                                                                                    period. This implies a decent amount of overall growth
this growth. But at a total level the value of NZ exports to
                                                                                    momentum to be lost if direct trade with Europe slows.
Europe was $1.26 billion in the three months to October
2011, almost $200 mllion, or 18%, higher than the same
                                                                                    Which way the cookie crumbles remains to be seen.
period a year ago. Over the period, exports to Europe well
                                                                                    For now, we will certainly take today‟s robust looking
outpaced export growth to Asia (up 7%), to Australia (up
                                                                                    merchandise trade accounts as a positive.
9%), or to North America (up 8%). Interesting to note that
imports from Europe also displayed the fastest growth                               If nothing else, the results were better than market
among the major regions, up a hefty 26%. Based on NZ‟s                              expectations from a trade balance point of view. The
trade figures, you would be excused for thinking Europe                             $282m October monthly trade deficit was smaller than
was a hive of activity!                                                             the $450m deficit the market anticipated. This was the
                                                                                    result of both exports coming in a tad stronger and
This, of course, does not mean that New Zealand is                                  imports mildly undershooting the market pick. Even
immune to the problems in Europe. For a start direct trade                          though the monthly trade deficit was smaller than market
is only one channel of influence. Confidence, bank funding                          expectations, it was marginally larger than a year ago
costs, indirect trade effects and world commodity price                             resulting in the annual trade surplus narrowing to $630m
falls are potentially some of the other more important                              in the year to October from $690m in the year to
ones to keep an eye on.                                                             September.

 Ann % change
 in 3 mth totals                 Export Value Growth, By Region                                                             Share of NZ Exports
                                                                                                                                Year to October 2011

 15.0                                                                                                                                15%

 10.0                                                                                                                North America                     40%

  5.0                                                                                                                 Europe


 -5.0                                                                                                                                   Australia
              Asia             Australia   Europe   North America   Other   Total
 Source: Statistics New Zealand, BNZ
                                                                                    Source: Statistics New Zealand, BNZ
$ billion
                                     Goods Exports and Imports                                                ann % change in 3m
                                                                                                              TWI-adjusted values
                                                                                                                                        Goods Imports and GDP                                    ann %
50                                                                                                             40                                                                                   10
                                                                                                                                                                              Goods imports
                                                                                                                                                                              (ex-transport)        8
45                                                                                                             30
40                                                               Imports                                                                                                                            4
                                                                                                                0                                                                                   0

30                                                                                   Exports                                                                                                        -2
                                                                                                                                                                            Real GDP                -4
                                                                                                              -20                                                             (rhs)
     95     96    97     98     99     00   01   02    03       04   05    06   07     08      09   10   11   -40                                                                                   -10
                                                                                                                Mar-89 Mar-91 Mar-93 Mar-95 Mar-97 Mar-99 Mar-01 Mar-03 Mar-05 Mar-07 Mar-09 Mar-11
     Source: Statistics New Zealand, BNZ              Monthly
                                                                                                              Source: Statistics NZ, BNZ          Monthly/Quarterly

We take the still strongly positive annual growth in total                                                    The lower NZD represents a substantial easing in
exports and total imports as indicative of an economy                                                         monetary conditions and will help diffuse any potential
still pushing forward. Much judgement is required in                                                          pain emanating from abroad. Importantly, the TWI is
translating the monthly nominal trade data into meaningful                                                    now more than 8% below RBNZ expectations. That is
indicators for real GDP, but nothing jumps out here to                                                        equivalent, assuming a reasonable 5 to 1 ratio, to circa
change of view for robust GDP growth in Q4.                                                                   170 basis points of interest rate cuts in terms of support
                                                                                                              to the economy. That is a lot of support.
As concerns around Europe intensify and the likelihood
of slower global economic growth increases, we must                                                           Whether this is enough, too little, or too much support to
not overlook some shock absorbers the domestic                                                                offset the ills of the world only time will tell. But, as the
economy has in place. One is our own, floating, currency.                                                     international risks escalate, the substantial retreat of the
                                                                                                              NZ dollar is at least useful insurance. It will at a minimum
It is no coincidence that the NZ dollar has been in steady                                                    lessen any negative impact on the NZ economy. Whether
retreat over the past few weeks as global risk aversion has                                                   this is enough to keep the RBNZ on its previously
spiked higher. The NZ dollar has fallen 10% over the past                                                     indicated timings for OCR hikes is a moot point. To us, it
four weeks from just over US82c to around US74c.                                                              seems more than enough to convince the central bank not
Indeed, it is now more than 16% down from its peak in                                                         to cut the OCR, and most certainly not at its next meeting
early August. While currency volatility can be a pain in                                                      on 8 December as the market is now sniffing at (with that
itself, the lack of flexibility can have its own problems –                                                   possibility pegged at about 20%).
just look at Europe.
Europe’s Noose Tightening
                Uncertainty in Europe continues, amid calls for                                                                 Key European developments last week:
                the ECB to become the “investor” of last resort
                                                                                                                                   Greek Prime Minister Papademos won a confidence
                Australian Wages outlook benign – good for
                                                                                                                                   vote for his new Government and unveiled the 2012
                inflation ahead
                                                                                                                                   Budget, as the IMF said that it won‟t release the
                Funding costs rising for Aussie banks                                                                              next €8 billion tranche of funding until there is broad
                NAB cuts Q4 GDP forecast to 0.9%                                                                                   political support for the measures attached to the
                                                                                                                                   rescue plan. The Greek Budget has an ambitious
Investor nervousness continues. Greece, Italy and Spain                                                                            target of 5.4% of GDP next year (from 9.0% this year),
remain firmly in the markets‟ sights, while French                                                                                 with the economy contracting 2.8% in 2012 after -
developments are increasingly grabbing the attention                                                                               5.5% in 2011.
of markets. With bond yields in Italy and Spain hovering
near the 7% level, the main event (at the moment) is                                                                               Newly installed Italian Prime Minister, Mario Monti,
whether the European Central Bank will become an                                                                                   is working to push through austerity measures, but
“investor” (in European Sovereign debt) of last resort,                                                                            borrowing costs continue to remain elevated. Italy
an outcome strongly opposed by Germany because of                                                                                  auctioned EUR3bn of 5-year bonds at 6.29%, the
its money-printing associations.                                                                                                   highest yield since June 1997 and almost 100bps
                                                                                                                                   above the yield achieved at last month‟s auction.
While a recession in Europe is now widely expected,                                                                                Italian 10-year bond yields repeatedly pierced through
markets remain fearful of contagion effects across the                                                                             the 7% threshold last week (the level that prompted
global economy. Commodity prices have lost further                                                                                 Greece, Ireland and Portugal to seek EU bailouts),
ground and the USD has strengthened. The lack of risk                                                                              suggesting investors have serious doubts over
appetite saw the Australian dollar fall below parity with                                                                          Monti's ability to improve the country's fiscal outlook.
the USD on Friday, having been as high as 1.035 USD
earlier last week. Meanwhile the upward pressure on                                                                                In Spain, debt markets are also under pressure.
bank funding costs continues.                                                                                                      Spain‟s auction of €5.5bn of 10-year bonds yielded
                                                                                                                                   6.975%, the highest since 1997 and up from 5.4% in
The other key event this week is the US Super                                                                                      October. The elections on the weekend saw a new
Committee‟s deadline to cut the Budget deficit by                                                                                  Government elected, with the right-of-centre People‟s
US$1.2 trillion. With hopes of a deal fading, there are                                                                            Party winning the largest majority in over two decades.
concerns that a failure could see another downgrade
to the US credit rating.                                                                                                           France auctioned €8.05bn of 5-year bonds at a yield
                                                                                                                                   of 2.82%, up from 2.31% on 20 October. French 10-
Italian and Spanish bond yields in markets‟ sights                                                                                 year bond yields hit a high of 3.82% last week, with
                                            Government Bond Yields                                                                 the spread over German bonds rising above 200bps
                                     Secondary market 10 year yields (%)
                                                                                                                                   for the first time since the launch of the euro, amid
          7.0                                                                                                             7.0
                                                                                                                                   fears that France will lose its AAA credit rating.
          6.5                                                                                                             6.5

          6.0                                                                                                             6.0
                                                                                                                                Despite the deteriorating situation, Germany remains
          5.5                                                                                                             5.5
                                                                                                                                adamant that there will be no financing of troubled
          5.0                                                                                                             5.0
                                                                                                                                countries by the European Central Bank, and that the

                                                                                                                                ECB cannot act as a lender of last resort. There were
          4.0                                                                                                             4.0
                                                                                                                                reports last week that French President Sarkozy is
          3.5                                                                                                             3.5
                                                                                                                                arguing the euro cannot survive unless the ECB intervenes
          3.0                                                                                                             3.0
                                                                                                                                and provides some calm to the markets, but the Germans
                                                                                                                                are refusing to give in to the mounting pressure. An
          2.5                                                                                                             2.5

          2.0                                                                                                             2.0   alternatives plan which would see the ECB lending to
            Jan   Mar   May   Jul
                                    Sep   Nov   Jan   Mar   May   Jul
                                                                        Sep Nov     Jan  Mar    May    Jul
                                                                                                             Sep    Nov

                                                                          Source: NAB Global Markets Research, Reuters EcoWin
                                                                                                                                the IMF (which could then bail out troubled EU members)
                                                                                                                                has also been suggested.
Eurozone: contagion fears escalating
                                                                                                                                Markets have been sceptical of the EU leaders‟ ability to
Markets remained under pressure last week as the poor
                                                                                                                                fix this mess for some time, and now the economic data
run of news out of Europe continues. Fear of contagion
                                                                                                                                is also contributing to the gloom surrounding Europe.
is escalating as borrowing costs across the Euro-region
                                                                                                                                Industrial production fell 2.0% in September, with the
continue to rise, while a deep recession across Europe is
                                                                                                                                annual pace at its lowest level in two years, while Q3
becoming a more likely possibility.
                                                                                                                                GDP came in at just 0.2% (for annual growth of 1.4%).
The quarterly GDP growth was largely thanks to Germany                       US data better; Super Committee deadline looms
(+0.5%) and France (+0.4%), who make up almost half
the eurozone economy. Elsewhere, the Italian and Spanish                     Amid the ongoing European debacle, the positive news
economies (around 30% of the eurozone) have stagnated,                       for markets has been the better economic data out of
and have austerity packages in the pipeline that will                        the US economy. In the past week we have seen further
further restrain activity. Greece and Portugal contracted                    evidence that the US economy is growing modestly,
as expected, and the Netherlands also experienced a fall                     with good outcomes for retail sales, industrial production,
in activity.                                                                 regional manufacturing surveys, jobless claims, consumer
                                                                             confidence and the housing sector.
The Euro region is expected to record negative growth
in Q4 and while the ECB expects only a mild recession,                       So it appears that the US recession scare that spooked
the risk is of a much deeper and longer recession given                      markets in August and September has passed (for now at
the current predicament.                                                     least), but European developments remain an obvious risk.
                                                                             The other key issue this week for the US is the looming
Funding pressures also rising in domestic market                             Super Committee deadline on Wednesday. Back in August
                                                                             when the Republicans and Democrats were “negotiating”
Short-term funding costs for European banks remain                           the debt ceiling increase to avert a Government
relatively high. Australian spreads have been better                         shutdown, they agreed on a minimum of $1.2 trillion
behaved up until now, but they have moved higher in                          in debt reduction to be determined by the bipartisan
recent months and the risk is obviously to the upside                        12-member Super Committee by 23 November, otherwise
the longer that this crisis continues.                                       a "trigger mechanism" would activate a series of automatic
                                                                             cuts in military and social security programs. The Super
In Australia, we have seen some escalation in the spread                     Committee admitted failure on Wednesday, which will
between bank bill rates and the market's expectation for                     at least elongate the process.
the cash rate, with the chart below showing the spread
between 3-month bank bills and overnight indexed swaps                       It is Thanksgiving Day in the US on Thursday, with Black
(OIS) has risen from around 20 bps earlier this year to                      Friday sales this year starting at 10pm on Thursday night.
around 40bps now. The European spread has risen from                         So this time next week (Cyber Monday for all you online
20bps to 80bps.                                                              shoppers!) we‟ll have some better information on the
                                                                             current retail appetite of American consumers.
Short-term funding costs rising
                                                                             Australian: Easing wages point to moderate inflation
               Spread between 3mth bills and 3mth OIS
200                                                                          The RBA‟s Minutes from the November Board meeting
180                                                                          indicated that the Board considered the case to leave
160                                                                          the cash rate on hold in November, and it was not a
140                                                                          completely one-sided discussion to cut rates to 4.50%.
120                                                                          But since then, the escalating risks from the European
100                                                                          crisis, combined with further soft domestic economic
 80                                                                          data, not only confirm they made the right call, but also
                                                      Australia              point to another easing ahead.

 20                                                                          Last week we saw that wage pressures in the economy
  0                                                                          remain subdued amid slowing employment growth, and
  Nov-06        Nov-07         Nov-08        Nov-09        Nov-10   Nov-11
  Sources: Bloomberg, NAB Markets Research
                                                                             pose no barrier for the RBA to cut again, with a December
                                                                             cut still a possibility if the RBA feels the economy needs
                                                                             further „insurance‟ again the global risks. The Wage Price
For longer term debt, recent primary market issues of                        Index rose just 0.7% in Q3 (market forecast was 0.9%),
Australian bank debt have been pricing around 150bps                         the best outcome in 2 years, with the annual pace of
above swap, with a couple of 5-year issues coming in                         growth at just 3.6%, down from 3.8% and still below
over 200bps above swap – higher than any of the                              the „line in the sand‟ pace of 4% that is consistent with
issues during the GFC.                                                       underlying inflation near the top of the target band.

Clearly, a sovereign default in Europe, or any financial                     Private Sector wages rose 0.9% and Public sector
sector chaos, will lead to even more expensive debt in                       0.5% in Q3, for annual growth rates of 3.7% and 3.3%,
the domestic market as investors shy away from                               respectively.
wholesale markets. If Australian banks subsequently
raise their interest rates to businesses and households
to cover the higher cost of funding, the RBA would need
to offset this with a cash rate cut.
Wage pressures pose no barrier for another RBA                                                      trade data suggest a lower contribution from net exports
rate cut                                                                                            than we had previously forecast. Export volume growth
                                                                                                    was weak in Q3, as the recovery in coal export volumes
                                    Wage Price Index
          4.50                                                                      2.0
                                                                                                    is taking much longer than previously anticipated.
                      Quarterly Growth (RHS)                                        1.9

          4.25        Annual Growth (LHS)                                           1.8

                                                                                    1.7             Recent revisions to imports data, showing stronger
                                                                                                    imports than earlier estimates; suggests our current
          4.00                                                                      1.6


                                                                                                    0.9% forecast still has downside risk, from a purely
          3.75                                                                      1.4

          3.50                                                                      1.2

                                                                                                    technical point of view.

          3.25                                                                      1.0

                                                                                                    A 0.9% outcome for Q3 GDP growth would lift the annual
          3.00                                                                      0.8

                                                                                                    pace of growth from 1.4% to 2.0%yoy in the September
          2.75                                                                      0.6


                                                                                                    quarter. We expect that in early 2012 the pace of growth
                                                                                                    will be running at 4½% due to the strong investment
                                                                                                    growth in resources and infrastructure.

          2.00                                                                      0.0
                 01    02     03    04    05   06   07   08   09     10       11

                                                                   Source: Reuters EcoWin
                                                                                                    GDP growth to accelerate in early 2012
By state, the fastest wages growth was in WA, Tasmania                                                                                   Australian GDP
                                                                                                                                       Domestic Demand
                                                                                                              6                                                                                  6
and Queensland, although all states are in the 3.5% to
4.0% range. By industry, wages growth in mining,                                                              5                                                                                  5

wholesale trade and „Professional, scientific and technical                                                   4                                                                                  4

services‟ was above 4%yoy, while the weakest growth                                                                                                        Annual

was in retail (3.0%) and accommodation and food                                                               3                                                                                  3

services (3.1%).

                                                                                                              2                                                                                  2
                                                                                                              1                                                                                  1
Looking ahead, the leading indicators of employment
remain weak and point to further softness in the labour                                                       0
                                                                                                                                  Quarterly GDP Growth

market. The DEWR Internet Vacancies series fell by 4.2%                                                       -1                                                                                -1

(sa) in October to be down by 8.3%yoy and has been
trending lower for seven months.
                                                                                                              -2                                                                                -2
                                                                                                                   00   01   02   03   04   05   06   07   08   09   10   11    12      13

                                                                                                                                                                               Source: Reuters EcoWin

The ANZ job ads series has fallen for the past four                                                 Yesterday‟s ballistic Construction Work Done figures – up
months, and with the annual rate of employment growth                                               a stunning 12.5%, in Q3 alone – shifts risks towards GDP
below 1% and trending lower, there will be upward                                                   expanding by more than the 0.9% we now have.
pressure on the unemployment rate in the next few                                                   However, there are numerous other partial, to witness
months. This should keep CPI inflation subdued ahead.                                               before we can reach any firm conclusions.
Downward revision to Q3 GDP forecast
Australia‟s September quarter National Accounts will
be released on Wednesday 7 December, and we have
revised lower our forecast from 1.2% to 0.9%. The
downward revision is due to weaker than previously
anticipated manufacturing activity, while international
NZD/USD: Testing Times
       A further deterioration in the European debt crisis                                 Near-term outlook
       over the past fortnight has seen NZD/USD fall sharply
                                                                                           For now, there appears no clear catalyst to help ease the
       Domestic data have cooled giving the RBNZ more
                                                                                           European debt crisis. This raises the question of what are
       time to sit on the sidelines
                                                                                           the important levels for NZD/USD over the coming weeks
       While the risk of a further deterioration in the                                    to watch on the downside.
       European debt crisis and „hard‟ landing in Asia has
       increased, we still remain upbeat on NZD/USD over
                                                                                           Technically, the break of the early October low at
       the next 12 months
                                                                                           0.7470 increases the chance of a further move lower.
                                                                                           For support below this level we would point to the
NZD/USD 1-3 month target: 0.8000 – 0.8300                                                  estimate from our “fair value” model. The NZD/USD
       The full implementation of the EU rescue plan will                                  “fair value” range is currently 0.6920 to 0.7120, a 2 cent
       eventually help sentiment stabilise and support                                     fall over the past fortnight.
                                                                                                                       NZD/USD Relative To Short-term "Fair Value"
NZD/USD 6-12 month target: 0.8400 - 0.8700                                                 NZD/USD
                                                                                                                          Actual NZD/USD
       Should global growth expectations stabilise, it‟s likely                            0.83

       the domestic interest rate market will begin to price                               0.78

       in rate hikes from the RBNZ; this, combined with                                    0.73
       improved risk appetite, would spur NZD/USD higher
                                                                                           0.68          "Fair Value" Range*

Developments                                                                               0.63
                                                                                                                                                                                                               "fair value"
The NZD continues to take its lead from the various                                        0.58
                                                                                                                                                                                                             range between

twists and turns in the European debt crisis. Worryingly,

the epicentre of the European debt crisis has shifted from                                 0.48

the „periphery‟ to the „core‟ European economies. Indeed,
                                                                                              Jan-07       Jun-07        Dec-07        Jun-08       Dec-08        Jun-09        Nov-09       May-10        Nov-10        May-11   Oct-11

the level of bond yields in both Italy and Spain is now
                                                                                           * Fair value is calculated based on a regression model using NZ commodity prices, NZ -US Swap Spreads, and Risk Appetite

widely deemed as unsustainable and hence there is
                                                                                           Interestingly, provided the NZ-US 3-year interest rate
growing pressure on the European Union and ECB to
implement further measures to stem the crisis. The                                         differential is maintained, this suggests NZD/USD should
deterioration in the European debt crisis coupled with                                     be trading around 0.7200. We expect such a move in the
fresh signs of weakness in the NZ economy has seen                                         currency to be short-lived, as we strongly believe the fall
NZD/USD plummet almost 5% to around 0.7400, over                                           in NZ-US interest rate differentials is overdone and expect
the past fortnight.                                                                        it to move back in favour of the NZD. The potential
                                                                                           catalysts will likely come in the form of an easing in the
 NZD/USD                 Drivers of NZD/USD "Fair-value" over the past two weeks
                                                                                           European debt crisis; a firm Monetary Policy Statement
                                                                                           from the RBNZ on 8 December; or stabilisation in the NZ
                                                                                           data (e.g. NBNZ survey on 28 November, manufacturing
  -50                                                                                      activity on 8 December, BNZ PMI on 15 December, and
                                                                                           NZ GDP for Q3 on 22 December).

                                                                                           NZD/USD                       NZD/USD and Interest Rate Differentials                                                                        %
 -150                                                                                       0.90


 -250                                                                                                                                                                                                                                   3.0
           NZ Commodity        NZ-US Swap   Risk Appetite   Global Growth   "Fair Value"
               prices            Spreads                                                    0.80
Source: Bloomberg, BNZ

Adding to the declines in NZD/USD over the past fortnight                                   0.75
                                                                                                                                                                                               NZ-US 3-year                             2.2
has been a sharp fall in NZ-US interest rate differentials.                                                                                                                                  swap spread (RHS)
In particular, the NZ-US 3-year interest rate differential
plunged from 2.34% to 1.95% currently. The fall in NZ
                                                                                            0.70                                                                                                                                        1.8
                                                                                               Jan-09          Feb-09        Mar-09        May-09         Jun-09       Jul-09         Sep-09         Oct-09           Dec-09   Jan-10

interest rates has seen the market move to price a 20%                                     Source: Bloomberg                                                          Daily

chance of a 25bp cut from the RBNZ at its December
Monetary Policy Statement and almost fully priced for a
25bp cut over the next 12 months.
To our mind, the longer the European debt crisis drags                                                     NZD/USD
                                                                                                                                                          NZD/USD                       Scenario 2
on the less binary in nature the potential outcomes are.                                                    0.90

That is, the question now is how severe will the slowdown                                                   0.85

in European and global growth be. For NZ, such a view                                                       0.80
                                                                                                                                       Central Forecast
calls into question the RBNZ‟s own statement that “if                                                       0.75
                                                                                                                                                                                       Scenario 1

global developments have only a mild impact on the NZ

economy” it intends to raise rates. Because of this, we
feel the risks are skewed towards the RBNZ simply                                                           0.55
delaying the timing of its intended rate hike cycle. In this                                                0.50
regard, we get a fresh insight into RBNZ thinking with its                                                  0.45

Monetary Policy Statement on 8 December.                                                                    0.40

                                                                                                              Jan 2000 Jul 2001 Jan 2003 Jul 2004 Jan 2006 Jul 2007 Jan 2009 Jul 2010 Jan 2012 Jul 2013
In this case, our current forecast for NZD/USD to                                                          Source: RBNZ, BNZ                               Monthly
appreciate to 0.8700 by September 2012 could be a
couple of cents too optimistic. We will keep a close eye                                                   Risks to our view
on these developments and respond as needed.
                                                                                                           The conflict between negative developments offshore
  %                                                                                                 %
                                                                                                           but supportive domestic environment make it extremely
                          RBNZ Cash Rate Expectations
3.50                                                                                                3.50   difficult to forecast where NZD/USD will go. Because of
                                                                       Expectations                        this, it is worthwhile thinking about some alternative
3.25                                                                                                3.25   scenarios to our central track.
                                                                                BNZ                        In Scenario 1, the European debt crisis continues to
3.00                                                                                                3.00
                                                                                                           rumble on over the next couple of months. This would
                                                                                                           likely have negative knock on effects to global growth
2.75                                                                                                2.75
                                                                                                           and commodity prices. Such a scenario would likely see
                                                                                                           NZD/USD gradually fall over the next 3 – 6 months
2.50                                                                                                2.50
                                               Market pricing                                              towards our “fair value” estimate at 0.7000, although
                                            (Derived from OIS rates)
                                                                                                           expect trading to remain very volatile.
2.25                                                                                                2.25
       Oct-09 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 Oct-12
Source: Bloomberg, BNZ
                                                                                                           In Scenario 2, an easing in the European debt crisis sees
                                                                                                           the focus shift back to developments in the US. Should
                                                                                                           US growth remain weak it‟s likely US Federal Reserve
                                                                                                           undertakes QE3. The unresolved US fiscal situation could
                                                                                                           act as another drag on the economy. These factors could
                                                                                                           see the resumption of broad-based USD weakness
                                                                                                           witnessed during H1 this year.

The BNZ OIS-ter: NZ Rate Hike Expectations Crushed
     Market expectations of rate hikes from the RBNZ have been skittled over the past fortnight. The move to price interest rate
     cuts was driven by a further escalation in the European debt crisis. The OIS market is currently pricing almost a 20% chance
     of a 25bp cut from the RBNZ at its December meeting and is fully priced for a 25bp rate cut by March next year. At this
     stage, we think it‟s more likely the RBNZ will leave rates on-hold for a longer period of time, rather than cut rates. We will
     get a check on this view with the RBNZ monetary policy statement on 8 December.
     Across the Tasman, the OIS market is pricing 35bps of cuts at the next RBA meeting on 6 December. Over the next 12
     months, the market is pricing a total of 170bps of rate cuts from the RBA. To our mind, current pricing is overweighting the
     chance of a Global Financial Crisis and associated „hard‟ landing in Asia (e.g. Lehman collapse in late 2008). Given this view,
     our NAB colleagues expect only one further cut from the RBA next year. This suggests that if the situation in Europe
     stabilises expectations for rate cuts should ultimately be reduced.
     While the European debt crisis has deteriorated, expectations of rate cuts from the ECB have moved only marginally lower.
     This highlights that the problems Europe are facing cannot be solved by lower interest rates, as in a „traditional‟ economic
     downturn. Rather the central role for the ECB currently is to provide liquidity to the banking system and purchase sovereign
     European bonds to keep a lid on rising yields. Given the deteriorating situation, there is speculation the ECB will undertake
     quantitative easing to prevent a full scale financial crisis and accompanying fall in inflation below their 2% target.
     Both the Bank of England and the US Federal Reserve are widely expected the leave rates on hold for an extended period.
                                          New Zealand                                                                                                                 United States
    %                               RBNZ Cash Rate Expectations                                                   Bps      %                         US Fed Funds Rate Expectations
   3.50                                        (Derived from OIS Rates)                                           80      1.20                                    (Derived from OIS Rates)
   3.25                                                                                                           60
   3.00                                                                                                           40      0.80

   2.75                                                                                        10 November        20      0.60
                                                                                      change (RHS)
   2.50                                                                                                           0       0.40
   2.25                                                                                                           -20

                                                                                                                                                                                                                      10 November
   2.00                                                                                                           -40     0.00
          Mar-09           Sep-09     Mar-10       Sep-10         Mar-11       Sep-11          Mar-12       Sep-12            Oct-08       Mar-09 Aug-09 Dec-09 Apr-10 Sep-10 Jan-11              Jun-11 Nov-11 Mar-12     Jul-12
  Source: Bloomberg, BNZ                                                                                                 Source: Bloomberg; BNZ

                                                 Australia                                                                                                                 Canada
   %                                RBA Cash Rate Expectations                                                   Bps       %                            BoC Cash Rate Expectations                                                   Bps
  5.50                                    (Derived from OIS Rates)                                               50                                               (Derived from OIS Rates)
                                                                                             expectations                 1.25                                                                              Market                     40
  5.00                                                                                                           30
                                                                                                                 %%                                                                                                                    %
  4.50                                                                                   10 November             10                                                                                                                    20
                                                                                            change (RHS)
                                                                                                                 0        0.75
  4.00                                                                                                                                                                                                     10 November
                                                                                                                 -10                                                                                                                   10

                                                                                                                 -20      0.50
                                                                                                                                                                                                               change (RHS)
  3.00                                                                                                           -40      0.25
  2.50                                                                                                           -60      0.00                                                                                                         -20
     Dec-08 May-09 Sep-09 Feb-10               Jun-10   Oct-10   Mar-11    Jul-11   Nov-11     Apr-12   Aug-12                Jan-09       Jun-09   Oct-09   Mar-10    Jul-10   Dec-10   Apr-11   Sep-11   Jan-12 May-12    Oct-12
 Source: Bloomberg, BNZ                                                                                                  Source: Bloomberg, BNZ

                                       United Kingdom                                                                                                                    Eurozone
                                     BoE Cash Rate Expectations                                                  Bps        %                            ECB Cash Rate Expectations                                                  Bps
  3.50                                         (Derived from OIS Rates)                                           60     4.75                                         (Derived from OIS Rates)                                        40

                                                                                                Market                   4.25                                                                                     expectations
                                                                                                expectations      40
                                                                                                                         3.75                                                                                                         20
  2.50                                                                                                               %                                                                                                                     %
                                                                                                                         3.25                                                                                 Change (RHS)
                                                                                               change (RHS)              2.75                                                                                                         0
                                                                                                                  0      2.25

  1.00                                                                                                            -10
                                                                                                                         1.75                                                                                                         -20
                                                                                                  Current         -20                                                                                           10 November
  0.50                                                                                                                   1.25
                                                                                                10 November                                                                                                         Current
  0.00                                                                                                            -40    0.75                                                                                                         -40
     Nov-08 Mar-09           Jun-09 Nov-09 Mar-10       Jul-10   Nov-10 Mar-11      Jul-11    Nov-11 Mar-12                 Mar-08 Aug-08 Dec-08 May-09 Oct-09 Mar-10 Aug-10 Feb-11 Jul-11 Dec-11 May-12 Oct-12

 Source: Bloomberg, BNZ                                                                                                  Source: Bloomberg, BNZ
Key Fixed Interest Views
 Category                             Strategic View (12mth)                                Tactical View (1mth)
                                                                                     Market focused on global uncertainty.
                                                                                  Markets pricing of a 20% chance of a rate cut
 NZ Money                    RBNZ to begin raising the OCR in June 2011.                   on Dec 8 will not be met.
 markets                             OCR to peak at 4.5% in 2013.                  We expect the RBNZ to remain on hold and
                             Bank bill margins to narrow as global funding              reiterate „wait and see‟ stance.
                                            pressures ease.                              Focus on Debt – 11 Nov 2011
                                                                                   Bank bill margins remain relatively elevated
                                                                                              at around 20-30bps.

                               Yields currently trading below "fair value".           RBNZ meeting a catalyst for repricing
                              Expect yields to move meaningfully higher.                of interest rates to higher levels.
 NZ Swaps                     Benefits to fixing 2-5 year interest rate risk.        2- 5year swap yields however, likely to
                            Worst case scenarios unlikely to result in much          remain relatively depressed until global
                                       lower borrowing costs.                                   turmoil subsides.
                                    A glass half full? - 12 Oct 2011                 A Bit of Breathing Space – 28 Oct 2011

 NZ Swap                        Curve to flatten as short-end yields rise             2s-10s curve to remain range-bound
 Curve                                   faster than long-end.                                  around 150bps.
                                     2s-10s to decline to 120bps.                    A Bit of Breathing Space – 28 Oct 2011

                             NZ bond yields to move meaningfully higher
 NZ Bonds                                                                           US 10-year yields have fallen below what
                             as NZ OCR rises and US long-rates rise from
                                                                                       US economic data would dictate.
                                      excessively low levels.
                                                                                  Uncertainty in Europe may continue to weigh
                     NZ-US 10-year spread to rise but remain below 3.0%.
                                                                                  on US long yields depressing NZ long yields.
                        Attractive or Not? - NZ Long Bonds - 20 Oct 2011

 NZ Swap-               Swap-bond spreads to rise - 10-year EFP to peak
 Bond                              at 50bps in late 2013.                          10-year EFP to remain in positive territory.
 Spreads              What's Up With Swap Spreads Now? - 24 Aug 2011

                            NZ 10-year yields to rise faster than AU yields.       NZ-AU 10-year bond yield spreads to move
 NZ-AU Bond
                                                                                   higher but stay below upper edge of recent
 Spreads             NZ-AU 10-year spread to widen to as much as 70bps.                           range (35bps).

                   Credit yields currently depressed relative to equity yields.
                     Some normalisation in credit-equity spreads expected.
                                                                                   Upward pressure to remain on Financials
 NZ Credit           Lack of issuance is an offsetting factor to rising credit           spreads due to European crisis.
                                             yields.                              Non-financials spreads to be dragged higher.
                    Shifting Focus From Governments to Corporates - 2 Aug
Interest Rate Strategy: Volatility
        Volatility across global market has picked up,                                                                             Historic (achieved) volatility has also picked up in NZ
        though is generally below late 2008 peaks                                                                                  specific asset classes. This can be seen for NZ swap
        Volatility in NZ fixed interest markets has also                                                                           yields above, although once again recent peaks
        picked up in recent months                                                                                                 are nowhere near levels reached in early 2009.
        5-day ranges in NZ bonds in early August (42bps),                                                                          Volatility has also picked up in NZ bond markets.
        and early November (34bps), are in the
        top ranks for the past decade                                                                                              Ten Largest ranges of 5 daily closes - NZ 10-year yields (1999-2011)
        Despite greater volatility in NZ fixed interest markets,                                                                      Rank        Date        Low         High     Range (bps) Direction of yields
        it remains well below levels seen in alternative NZ                                                                             1       30-Mar-09     4.797       5.505        0.503
        asset classes                                                                                                                   2       2-Dec-08      4.849       5.388        0.470
        Therefore, NZ Govt and corporate bonds continue                                                                                 3       14-Oct-08     5.617       6.164        0.459
        to perform well on a risk (volatility) adjusted basis                                                                           4       8-Aug-11      4.467       4.931        0.423
        An ultimate decline in market volatility (stabilisation                                                                         5       8-Jun-07      6.395       6.825        0.420
        in Europe?) will see market focus return to                                                                                     6      21-Nov-08      5.404       5.915        0.382
        valuations where fixed interest is less attractive                                                                              7      19-Nov-01      6.08        6.470        0.380
        than other assets                                                                                                               8       6-May-99      5.77        6.145        0.375
                                                                                                                                        9      12-Sep-01      6.225       6.710        0.360
Volatility in markets represents uncertainty. It makes                                                                                 10      16-May-01      6.351       6.712        0.360
assets less attractive, all else equal. Volatility means that
at any point in time, returns may be some way from the
                                                                                                                                   Volatility has a number of precise definitions. Typically,
expected long-term return, even if the end-point may be
                                                                                                                                   it is referred to as annualised standard deviation of return.
relatively certain.
                                                                                                                                   The table above shows a handy snapshot of volatility
                                          Global Market Volatility                                                                 using 5 day ranges for NZ bond yields. It uses data since
 280                                                                                                                          30   1999. It ranks the period of largest moves in NZ 10-year
 240                                                                                                                               bond yields. Ranges are measured over 5 consecutive
                                                                                                                                   trading days‟ closing prices. The first week of August this
                                                                                                                                   year appears near the top of this list. At that time, 10-year

 160                                                                                                                               yields fell 42bps over 5 days.

                                                                                                                              10   Even more recently, volatility has once again picked up.
                                                                                                                                   In the 5-day period to 15 Nov, NZ 10-year bond yields

                                                                                                                                   fell 34bps, which would rank at 13th on the table above.
    0                                                                                                                         0
  1/01/2007               1/01/2008              1/01/2009                  1/01/2010            1/01/2011                         Ten Largest ranges of 5 daily closes - US 10-year yields (1999-2011)
                                                       US VIX- Implied US Equity Vol Index
                                                       US MOVE - Implied US Treasury Vol index                                        Rank        Date        Low          High     Range (bps) Direction of yield
 Source: Bloomberg                                     JPMorgan G7 FX Vol Index (rh)
                                                                                                                                        1       20-Nov-08     2.9885      3.858         0.722

In recent months, volatility has picked up across most                                                                                  2       16-Nov-01     4.266       4.901         0.540

global asset markets. However, generally volatility has                                                                                 3       18-Dec-08     2.0352      2.742         0.492

not reached the levels it spiked to during the late 2008 -                                                                              4       7-Dec-01      4.626       5.207         0.480
early 2009 highs, near the beginning of the Global                                                                                      5       13-Oct-08     3.3999      3.978         0.475
Financial Crisis.                                                                                                                       6       5-Jan-09      2.0498      2.515         0.428
                                                                                                                                        7       15-Oct-02     3.5413      4.054         0.426
The chart above shows implied (expected) volatility as                                                                                  8       19-Sep-08     3.246       3.830         0.424
opposed to historic (achieved) risk. However, both are                                                                                  9       2-Nov-11      1.9487      2.418         0.411
closely related. A rise in implied volatility can be seen                                                                              10       28-Nov-08     2.9025      3.365         0.404
across equity, bond and FX markets in recent months.
                                                                                                                                   Not surprisingly, the periods of large NZ bond yield moves
                                      NZ Swap Yield Volatility
                                                                                                                                   often coincides with large moves in US bond markets.
                                                                                                                                   Recent history has been no exception. US 10-year yields
 10                                                                                                                                traded in a 41bps range at the start of Nov, coinciding
                                                                                                                                   with the large moves seen in NZ markets.

   6                                                                                                                               Volatility is an important consideration for investors.
                                                                                                                                   There is an inherent bias away from uncertainty of returns.
                                                                                                                                   Investors therefore demand higher returns (risk-premiums)
                                                                                                                                   to off-set volatility of returns.

 5/01/2005           5/01/2006     5/01/2007         5/01/2008         5/01/2009         5/01/2010         5/01/2011

 Source: Reuters, BNZ
                            5 year swap volatility (over 60 trading days)      2year swap volatility (over 60 trading days)
                     NZ Asset Classes - Standard Deviation (ann)                                              The total returns of the asset classes are also shown.
   25%                                                                                                        Even without adjusting for volatility, it is clear that fixed
                                                                                                              interest indices continue to outperform most peers, in
   20%                                                                                                        recent times.

                                                                                                                               NZ Asset Classes Volatility Adjusted Returns (y/y%)
   10%                                                                                                           15.0

     5%                                                                                                          10.0

     0%                                                                                                            5.0
     1/05/2003           1/05/2005              1/05/2007           1/05/2009               1/05/2011

                        NZ Govt Bonds (rh)                      NZ Inflation-linked Govt Bonds (rh)
                        NZ Investment Grade Corp Bonds (rh)     NZ A-Grade Corp Bonds (rh)
                        NZ Equities (large-cap)                 NZ Equities (small-cap)
 Source: Bloomberg      NZ Listed Property                      MSCI World Equities (NZD)

We turn to NZ asset class volatility. Despite the large                                                         -10.0
                                                                                                                  1/05/2003           1/05/2005           1/05/2007        1/05/2009              1/05/2011

moves seen in NZ bond markets in recent weeks, annual                                                                                NZ Govt Bonds
                                                                                                                                     NZ Investment Grade Corp Bonds
                                                                                                                                                                      NZ Inflation-linked Govt Bonds
                                                                                                                                                                      NZ A-Grade Corp Bonds
volatility of return is still subdued relative to other asset                                                                        NZ Equities (large-cap)          NZ Equities (small-cap)
                                                                                                                                     NZ Listed Property               MSCI World Equities (NZD)
classes. The chart above compares annual standard
                                                                                                               Source: Bloomberg

deviation of returns of various NZ asset classes.
Deviations in total gross returns are compared for NZ                                                         After adjusting for volatility, the out-performance
government and inflation-linked bonds, corporate bonds,                                                       (relative to 30-day Bank Bills) of fixed interest indices
NZ large and small cap equities, world equities in NZD                                                        is even starker.
and NZ listed property.
                                                                                                              A further observation about volatility is that it is generally
                       Total Returns NZ Assets Classes (y/y%)                                                 mean-reverting, as opposed to trending. We therefore
                                                                                                              expect volatility will ultimately fall back to lower levels,
                                                                                                              with time. Some stabilisation of the uncertainty currently
                                                                                                              engulfing the Eurozone will be required, at a minimum.

                                                                                                              When this does occur, the appeal of fixed interest from
                                                                                                              a NZ asset allocation perspective will diminish. At that
                                                                                                              point, the market‟s attention will likely return to relative
                                                                                                              valuations where fixed interest instruments continue to

                                                                                                              look relatively expensive compared to alternatives.

  1/05/2003              1/05/2005               1/05/2007             1/05/2009                  1/05/2011
                         NZ Govt Bonds                        NZ Inflation-linked Govt Bonds
                         NZ Investment Grade Corp Bonds       NZ A-Grade Corp Bonds
                         NZ Equities (large-cap)              NZ Equities (small-cap)
 Source: Bloomberg
                         NZ Listed Property                   MSCI World Equities (NZD)             
Money Market Strategy
   Rates fall sharply as Europe teeters                         %               NZ 3mth Bill and BBC Futures
   But currency doing the work for the RBNZ                    3.00

   Chances of immediate RBNZ action overpriced                 2.90
   in our view

Kiwi rates have rallied hard over the past fortnight
as concerns about the European sovereign debt crisis           2.70

intensify. The OIS curve has moved to price more               2.60                                               24-Nov-11
than one full 25 basis point cut from the RBNZ over
the next six months, with the market not accepting             2.50

the tightening bias outlined by the Reserve Bank in
its October OCR review as tenable with the European
                                                                  3mth         NBBc1        NBBc2         NBBc3               NBBc4
situation deteriorating by the day. The December 8
MPS is currently assigned a 20% chance of a 25
                                                              Suggested trading ranges for the next fortnight are:
basis point cut.
                                                              Dec bills 97.32 – 97.42
The December statement shapes as an interesting and
somewhat tricky missive for the Bank. The landscape has       Mar bills 97.40 – 97.60
clearly changed for the worse since October but we doubt
whether that is sufficient for the Bank to be contemplating
cutting rates in the immediate future. We are therefore not
expecting the Bank to ratify market pricing but instead
play a straight bat by highlighting the uncertainties but
not mentioning easings per se. The loosening in monetary
conditions via the sharp depreciation of the NZD since
the statement is significant in our view and affords the
Bank time to sit back and see how events unfold.

With the above view in mind, we are a payer of the
December OIS meeting and seller of the front
contract on rallies.
NZ Credit Markets
   APRA released its Discussion Paper titled                      RBA also announced an increase in its initial margin
   Implementation of the Basel III liquidity reforms              requirements across nearly all (apart from CGS and Semis)
   in Australia and draft Prudential Standard APS                 of its list of repo eligible securities. This wasn‟t widely
   210 Liquidity.                                                 expected and given the margins they are going to apply
   The RBA has also provided the much anticipated                 to BBB+ ADI‟s, we have had to temper our view of
   detail on the committed liquidity facility (CLF).              repo eligibility as being positive for regional bank bonds
   While New Zealand banks will follow RBNZ                       (see below). The RBA‟s new margins will apply from
   guidelines, Australian ownership makes APRA and                1 February 2012.
   RBA policy relevant on this side of the Tasman.
   Both APRA and RBA are ensuring that CGS and                    The initial margin changes are as follows. Green margins
   semi government paper will continue to be the                  represent lower margins, black are unchanged and red are
   gold standard for bank liquidity portfolios.                   higher margins. As can be seen there is a lot more red
                                                                  than there is black or green. This we interpret as an
   The Supra and Agency asset class has not been
                                                                  attempt by the RBA to neutralise attractiveness of repo
   done any favours.
                                                                  eligible assets that attract higher yields (by applying higher
   We are neutral on Bank bonds and don't expect
                                                                  margins to them).
   any forced selling.
   Margins on covered bonds are going to be                       Table 1: RBA Repo Margins
   significantly less than senior unsecured bonds
   and balance sheet demand for AUD covered bonds                                                     Current Margins                     New Margins
   are probably going to be a bit higher than we                                        Min.      0–1   1–5 5–10 >10            0–1        1–5 5–10     >10
                                                                                       Rating     yrs    yrs   yrs     yrs      yrs        yrs   yrs    yrs
   previously thought.                                                                              General Collateral
   The inclusion of self securitised RMBS for repo                        CGS
   eligibility for the CLF isn‟t all that its cracked up to be,       Supras &          A-1 or
   especially when the starting point is only 90% of par.           sovereigns          AAA(b)       2       2      2      2          2       3     4         4
                                                                     Aust govt-
                                                                    guaranteed             n/a       2       2      2      2          2       3     4         4
Last week the Australian Prudential Regulation Authority          Foreign govt-         A-1 or
                                                                    guaranteed          AAA(b)       2       2      2       2         2       3     4         4
(APRA) released for consultation its Discussion Paper                                                    Private Securities
titled Implementation of the Basel III liquidity reforms in         ADI-issued
                                                                   securities (c)          AAA       2       4       6      8      6          7     8     10
Australia and draft Prudential Standard APS 210 Liquidity.                                 AA–       2       4       6      8     10         12    14     16
Concurrent with this release, the Reserve Bank of                                            A–      2       5       7      9     12         14    16     18
                                                                                         BBB+        2     n/a     n/a    n/a     15         17    20     23
Australia (RBA) has also provided the much anticipated                                   Other
detail on the committed liquidity facility (CLF) that will                                rated      2    n/a   n/a   n/a         20        n/a   n/a    n/a
                                                                                                    Asset-backed Securities
assist ADIs in meeting their Basel III LCR requirements                         A-1 or
(to become effective from 1 January 2015). The fee                  - Standard   AAA                10      10     10     10      10         10    10     10
                                                                                A-1 or
attached to the CLF will be 15bps p.a. based on the size                - Other  AAA                 2     n/a     n/a    n/a   10-20 10-20 10-20 10-20
of the facility (that is applicable to drawn and undrawn                        A-1 or
                                                                          Other  AAA                 2       4      6      8          6       7     8     10
amounts). This was probably less than what most in the              (c) Includes Covered Bonds

market would have been expecting, however, the benefit
of this has been marginalised with the RBA also
                                                                  The RBA amending the margin requirements are not
announcing higher repo margins (see below).
                                                                  surprisingly consistent with APRA implementing the Basel
                                                                  3 liquidity reforms and encouraging the banks to hold as
As had been expected, the securities ADIs will be able
                                                                  much CGS and Semi assets as they can. APRA got that
to repo under the CLF will include all securities eligible
                                                                  ball rolling back in February and confirmed it in last week‟s
for the RBA‟s normal market operations. In addition to
                                                                  Discussion paper by reaffirming that the only assets that
this and for the purposes of the CLF only, the RBA will
                                                                  will qualify as Level 1 assets are cash, CGS and Semis and
also be allowing self-securitised residential mortgage-
                                                                  there are no assets in Australia that will qualify as Level 2
backed securities (RMBS) to be repo eligible. This wasn‟t
                                                                  for LCR calculation purposes.
expected but as we point out below there isn‟t too much
to get excited about either.
                                                                  Market Impacts
The RBA also announced an expansion of repo eligible              CGS and semi government paper will continue to be the
securities to include ADI‟s below an A- credit rating (i.e.       gold standard for bank liquidity portfolios. Everything
the securities of the BBB+ rated regional banks with              else being equal, a pricing differential cap has been
terms to maturity greater than 1yr) – we had previously           established in so far that CGS and semis (no matter what
forewarned investors of this and the possibility that it          their rating is) are going to have to price at least 15bps (to
could be good for regional bank credit spreads. But the           compensate for the CLF fee) inside the Supranational‟s
and that‟s before the market places an additional               • The demand for AUD covered bonds from bank
differential to account for the margin differences                balance sheets are probably going to be higher
which get larger for the +5yrs tenors. Last week‟s                than previously thought.
announcement hasn‟t done the Supranational and
                                                                • We are neutral on the pricing impacts on Big 4 bank
Agency asset class any favours, but then again it was
                                                                  senior unsecured bonds in the short to medium term
never expected to.
                                                                  (spreads to continue to be driven by the European
                                                                  sovereign debt crisis anyway) as we don‟t expect any
AA- rated bank bonds have had their margins significantly
                                                                  forced bank selling from the announcements.
increased. This was not expected and for everything else
being equal would make them less attractive assets for          • The upside to regional bank bonds from becoming
banks to hold in their liquidity portfolios. This is evidence     repo eligible has been taken away from punitive
of an attempt to ensure that there isn‟t excessive cross          margin requirements
holdings of bank issued instruments. So will banks liquefy
their Big 4 bank bonds holdings en mass causing spreads         • The inclusion of self securitised RMBS for repo
to blow out in Australia? In the short to medium term we          eligibility for the CLF isn‟t all that its cracked up to be,
don‟t think so! The domestic banks have been trying to            especially when the starting point is only 90% of par.
increase their non bank liquid assets for some time now
and under APRA‟s guidance and direction (that is likely to
make extensive use of peer comparisons) they will need
to maintain a good diversification of securities (that
includes bank bonds) that will be held as collateral for        Credit Market News
their CLF‟s.
                                                                –   New Zealand Post Limited issued NZ$150m of a new
Margins that will apply to AAA rated covered bonds are              Nov 2016 at swap+150bps, rate setting at 5.225%
going to be significantly less than what will apply to the          and settled in line with a number of maturities on
Big 4 bank senior unsecured bonds. Therefore, unless                15 November. BNZ was sole Lead Manager.
the market prices AUD covered bonds significantly tighter
than senior unsecured bank debt (i.e. covered spreads           –   Insurance Australia Group Ltd (A+/Stable) announced
less than half unsecured), AUD covered bonds are                    that following strong indicated demand, it has
probably going to end up being a more attractive liquidity          increased the size of its unsecured subordinated
asset than what we previously thought and as a result               retail offer to NZ$325 million from a previously
garner decent domestic bank balance sheet support.                  advised offer size of up to NZ$250 million, including
We previously thought that the inclusion of BBB+ rated
                                                                     • The minimum interest rate until 15-Dec-16 (5
ADI‟s as repo eligible asset would provide support for the
                                                                        years) has been set at 7.50% p.a.
regional bank bonds of Bendigo and Adelaide Bank and
Bank of Queensland. However, with margin requirements                • The actual interest rate until 15-Dec-16 will be
of 17% on bonds with 1-5yr maturities and even 15% for                  determined on or around 13-Dec-2011 as the
1yr or less, these punitive margin requirements have all                higher of 7.50% or the margin of 3.78% p.a. plus
but blown that hope out of the water.                                   the benchmark rate on that date
                                                                     • The bonds have been assigned a credit rating of
And on a first look basis, an across the board 10%                      „A-‟ by S&P.
margin applicable to either external RMBS or self                    • The 25nc5 bonds will qualify as Lower Tier 2
securitised RMBS portfolios have probably left many                     capital for the Group under APRA‟s current
wondering what‟s in it for a bank to buy another RMBS                   prudential standards and as Intermediate Equity
deal. However, the fine print reveals that a self securitised           Credit by S&P to the First Call Date (15-Dec-16)
RMBS will be priced at 90% of par prior the application of
the 10% margin. Therefore the real margin on a self                  • The offer is open to the public and is expected to
securitised RMBS portfolio will be 19% not 10%, making                  close 12th December.
it the least desirable form of liquid assets. The liquid of
last resort if you like.                                        –    Transpower (AA- S&P, A1 Moody‟s) are planning a 4
                                                                     and 7 year bond issue up to NZ$200m, with price talk
To Sum Up                                                            of swap+100-110 in the 4s and swap+130-140 in
                                                                     the 7s. ANZ and ASB are JLMs on the deal.
• Not surprisingly APRA and RBA are ensuring CGS and
  semis will continue to be the most sought after assets        –    As expected, S&P downgraded Telecom New
  for bank liquidity portfolios.                                     Zealand to A- Outlook Stable from A, reflecting
                                                                     “...reduced revenue diversity and loss of high-credit-
• The RBA‟s increased margins on the Supranationals
                                                                     quality access network revenues due to the
  hasn‟t done that asset class any favours in the bond
                                                                     demerger of Chorus Ltd”.
  markets. But then again they weren‟t expected to get
  any comparative benefits either.
–   Auckland Council‟s AA rating was placed on                 –    Italy‟s largest bank Unicredit posted a €10.6bn Q3
    CreditWatch Negative by S&P, meaning there is a                 loss, with write downs on goodwill, acquisitions and
    50% chance the long term rating will be lowered in              investments. The bank‟s stock closed down 6.2% as
    the next 90 days. The move comes off the back of                it also announced a rights issue of €7.5bn to
    the council‟s “plans to significantly increase capital          strengthen its capital position. The loss included
    expenditure, particularly in the area of transport. At          write-downs of goodwill on investments in
    this stage, it is unclear as to how much of this capital        Kazakhstan and Ukraine.
    expenditure will be funded using debt; however,
    current revenue and capital-expenditure projections        –    Norway‟s Eksportfinans ASA was cut to Ba2 from A1
    suggest that the council's debt levels will exceed              by Moody‟s, prompting the Norwegian government
    170% of operating revenues by fiscal 2013 and                   to reiterate its support for local government agency
    reach 200% by fiscal 2015.”. Following this the AA-             Komunalbanken Norway (AAA/Aaa), and confirming
    standalone rating and AA guaranteed debt rating of              in KBN‟s words that “...this confirms that the
    Watercare Services Ltd has also been placed on                  Norwegian Central Government, as a 100% owner,
    CreditWatch negative.                                           …has the duty of ensuring that the financial affairs of
                                                                    Kommunalbanken are managed in a way that
–   ANZ-National‟s NZX-listed UT2 was upgraded by                   secures the Agency‟s ability to pursue its operations
    Moody‟s to A2 from A3 as the terms of the notes                 and that it is in a position to meet its financial
    were changed to make deferred interest cumulative               obligations in a timely manner” KBN has two kauri
    to comply with new tax rules on Upper Tier 2                    issues – a July 2014 fixed and a May 2021 FRN.
                                                               –    Contact Energy announced its BB- rated
–   Australian parent ANZ debuted with a US$1.25b 5                 subordinated retail bond had firm bids of $150m plus
    year covered bond at swap+115bps, or around                     $25m of oversubscriptions, with additional bonds
    BKBM+156bps. Westpac followed with a US $1b 5yr                 available via the public pool. The deal will price at a
    bond at the same level. Both have traded wider in               minimum interest rate of 8% or 455bp above the 5yr
    secondary.                                                      swap rate.

–   Two more Governments have been brought down by    /
    the ongoing European sovereign debt crisis. First
    Italy‟s Silvio Berlusconi forced to resign and replaced
    by the unelected Mario Monti. In Spain the ruling
    party was also deposed and replaced by a new
    centre right government.
Global Credit Indices
Index                          iTraxx Europe Investment Grade Index                                             Index                              iTraxx Europe Crossover Index
220                                                                                                             900




180                                                                                                             750




140                                                                                                             600
 28-Sep-11          5-Oct-11    12-Oct-11   19-Oct-11   26-Oct-11   2-Nov-11   9-Nov-11   16-Nov-11 23-Nov-11    28-Sep-11          5-Oct-11    12-Oct-11   19-Oct-11   26-Oct-11   2-Nov-11   9-Nov-11   16-Nov-11 23-Nov-11
Source: Bloomberg                                         Daily                                                 Source: Bloomberg                                         Daily

Index                   CDX North America Investment Grade Index                                                Index                           CDX North America High Yield Index
160                                                                                                             900


145                                                                                                             800


125                                                                                                             650


110                                                                                                             550
 28-Sep-11          5-Oct-11    12-Oct-11   19-Oct-11   26-Oct-11   2-Nov-11   9-Nov-11   16-Nov-11 23-Nov-11    28-Sep-11          5-Oct-11    12-Oct-11   19-Oct-11   26-Oct-11   2-Nov-11   9-Nov-11   16-Nov-11 23-Nov-11

Source: Bloomberg                                         Daily                                                 Source: Bloomberg                                         Daily

Index                                       iTraxx Australia Index                                              Index                          Itraxx Western Europe Sovereign Index
250                                                                                                             350

240                                                                                                             345

200                                                                                                             330

190                                                                                                             325

180                                                                                                             320

140                                                                                                             305

130                                                                                                             300
 28-Sep-11          5-Oct-11    12-Oct-11   19-Oct-11   26-Oct-11   2-Nov-11   9-Nov-11   16-Nov-11 23-Nov-11    28-Sep-11          5-Oct-11    12-Oct-11   19-Oct-11   26-Oct-11   2-Nov-11   9-Nov-11   16-Nov-11 23-Nov-11

Source: Bloomberg                                         Daily                                                 Source: Bloomberg                                         Daily
Data Review
Food Price Index (Oct) – 11 November                                                                                       REINZ Rural Property Report (Oct) – 16 November
October‟s Food Price Index was much weaker than we                                                                         October‟s farm sales, at 89, continued to register annual
expected, falling a further 1.3%, mainly on weakened                                                                       increases. However, this is only a gradual tendency, and
prices for seasonal vegetables. Still, even if this unwinds                                                                off last year‟s very low base.
in November (as we assume) food prices are set to drop
                                                                                                                           Number per month                                        Farm Sales
almost 2% in Q4. This has toned down our CPI                                                                                300
expectation to 0.5% (2.6% y/y).

BNZ Services PSI (Oct) – 14 November                                                                                                                                                                                                 Annual

Performance of Services Index pretty much stalled,                                                                          200

at a seasonally adjusted 50.6, from 52.9 in September.                                                                      150
This begins to question the robust expansion we (still)
expect for Q4 GDP, following the 1.0% we have on the                                                                        100                                                                                   3 month
                                                                                                                                                                                                               moving average

drawing board for Q3 GDP.                                                                                                     50

Diffusion Index,
   seas. adj.
                                  Industry Performance Indexes
 62                                                                                                                                 98        99         00    01   02        03        04       05       06        07    08    09       10         11
                                                                                                                              Source: REINZ                                              Monthly

 54                                                                                                                        Producer Prices (Q3) – 17 November
                                                                                                                           Producer output prices rose just 0.2% in Q3 (3.5% y/y,
                                                                                                                           from 4.5%). Meanwhile, on the inputs side of the ledger,
                      Breakeven                                                                                            producer prices rose 0.6% in Q3. Not exactly weak, but
                                                                                                                           still the slowest rate of increase for a year and a half. We
                                                                                                                           suspect these PPI results will only make the RBNZ more
                                                                                                                           inclined to trust the Q3 CPI result as a genuine abatement
    Jun-07          Dec-07        Jun-08   Dec-08        Jun-09        Dec-09        Jun-10   Dec-10        Jun-11
                                                                                                                           of underlying inflation threats.
Source: BNZ / Business NZ                                  Monthly

                                                                                                                           Capital Goods Price Index (Q3) – 17 November
Retail Trade (Q3) – 14 November                                                                                            Much as expected, the strong exchange rate helped
Q3, retail trade volumes surprised immensely, in surging                                                                   keep the Q3 capital goods price in check. However,
2.2% (2.4% ex-auto). This was at great odds with the                                                                       tumbling computer prices (-7.1%, -20.5% y/y) were a
tepid trend in monthly electronic card transactions.                                                                       clear structural drag. Prices for transport equipment
Still, we can‟t be too grumpy. The Q3 retail results                                                                       continued to edge up, while prices in the construction
sustained the chances of a decent GDP number for the                                                                       field were arguably a little firmer than the home
quarter (just when downward revisions were beckoning).                                                                     construction elements of the Q3 CPI.
                                                                                                                            Annual %
                                                Real Retail Sales                                                            change                            Capital Goods Building Price Index
 % change
   3.0                                                                                                         RWC                                                                  Residential
                                                                                                               (Q3/Q4)                                                                                                          Civil construction

   0.0                                                                                                                         2

  -1.0                                                                                                                         0

  -2.0                                                                                                                        -2

  -4.0                                                                                                                              94     95      96     97   98   99   00        01    02      03      04    05    06   07    08     09      10    11
         00         01       02      03    04       05      06       07         08     09     10       11     12
                                                                                                                           Source: Statistics NZ, BNZ.                                       Quarterly
Source: BNZ, Statistics NZ                                 Quarterly

Fonterra Auction – 16 November                                                                                             National Accounts (March year 2011) – 18 November
The latest wave of global alarm, centred on Europe, has                                                                    We were a little surprised to see a slight fall-back in
                                                                                                                           national savings (it having regained positive territory in
so far failed to crush New Zealand‟s commodity export
                                                                                                                           2009/10). We put this down to a bigger Government
prices. On balance, prices in NZD terms have been
                                                                                                                           deficit outweighing ongoing improvement in private-sector
relatively steady over recent weeks and months, as was
                                                                                                                           saving. We‟ll see if this is true when the Institutional
in further evidence in this dairy auction by Fonterra,                                                                     Sector Accounts for the year to March 2011 are published,
indeed with the USD price index up 2.6%.                                                                                   due 15 December.
The other things to note from the latest annual GDP                                                                  Statistics NZ discerned 53,000 visitors for the RWC in
accounts were that they were done on the basis of the                                                                October. Over the July-September period, 80,000 were
latest ANZSIC06 methods and involved material revisions                                                              identified. This brought the grand total of visitor arrivals,
which may well be meaningful to the quarterly GDP                                                                    here primarily for the RWC, to 133,200. These are big
accounts, when the latter are eventually converted over                                                              numbers, equivalent to 3% of the resident population.
to ANZSIC06 as well. The annual accounts also
highlighted the much-slowed progression in the nation‟s                                                              It‟s also worth noting that short-term departures, while
capital stock over recent years, which will be slowing the                                                           partly rebounded, across September and October
economy‟s speed limit.                                                                                               combined were down 9% on a year ago, no doubt
                                                                                                                     reflecting the broader stay-at-home impact of the RWC.
Credit Card Billings (Oct) – 21 November
                                                                                                                     This, in combination with the tourist inflows, goes a
Credit card billings in New Zealand surged an even greater                                                           long way to explaining the very strong spending figures
2.6% in October, following September‟s 1.3% gain. Sure,                                                              we‟ve witnessed for September/October.
a lot of this reflects spending by tourists, related to the
culmination of the Rugby World Cup in the month.                                                                     As much as tourism has been supportive of the local
However, it was interesting that billings on foreign-issued                                                          people-count, immigration trends have turned negative
cards actually slowed to 1.1% in October, following their                                                            in this regard. In October, there was a seasonally adjusted
17.3% boom in September, meaning it was Kiwi-issued                                                                  migrant outflow of 640 persons, about the same as
cards that did the heavy lifting in October – up 2.8%,                                                               September‟s 690. The undercurrents suggest we‟ll stay
following -0.8% in September.                                                                                        slightly negative for the next while and this will become
                                                                                                                     more evident in the annual running sums.
The other encouraging sign was that the surging domestic
charge-ups were not coming at the expense of bloating                                                                Net inflow (000s)
                                                                                                                                                                          Net Migration
outstanding balances. Indeed, overdraft levels continued                                                                60
to trend lower while past-due rates were back to 2007                                                                   50
                                                                                                                                                                 Mthly SA
                                                                                                                                                                Annualised                       Annual
levels. These are good signs that a decent amount of de-                                                                40                                                                    running total
leveraging has occurred over recent years.                                                                              30

                           Credit Card Advances 90 days Past Due                                                        10
1.4                                            As a percent of total credit card debt
1.2                                                                                                                    -20

1.1                                                                                                                    -30

                                                                                                                              95     96      97       98   99   00   01   02     03      04   05   06   07    08   09   10   11

0.9                                                                                                                  Source: Statistics New Zealand, BNZ                       Monthly

                                                                                                                     The net outflow of migrants, while essentially in our
0.7                                                                                                                  forecasts already, still has material implications for macro-
0.6                                                                                                                  economic views. Overall, it will dampen demand growth,
0.5                                                                                                                  particularly in the housing/construction realm. But the net
                                                                                                                     loss on the migration front will also restrict labour supply.
 Jul-2007                        Jul-2008                Jul-2009                  Jul-2010               Jul-2011
  Source: RBNZ, BNZ

                                                                                                                     What‟s really interesting in this debate is the composition
Int’l Travel and Migration (October) – 22 November                                                                   of the migration trends. Essentially, there is a big net loss
Largely as expected, October‟s short-term visitor arrivals                                                           (-34,291 year to October 2011) of NZ citizens (principally
were boosted by (the culmination of) the Rugby World                                                                 vis-a-vis Australia, with -35,149), which is beginning to out-
Cup. Numbers were up 17% (30,000) on October 2010.                                                                   point continued strongly positive net inflows of non-NZ
This followed on from the 26% jump in September, the                                                                 citizens (+34,188, year to October 2011) into the country.
month the RWC kicked off.                                                                                            This divergence could arguably add to job mismatching
                                                                                                                     and skill shortages, which could be an inflation driver to
Monthly, s.a.
                                                   Visitor Arrivals                                                  keep in mind.
                                                                                                                     Finally, a word on the “exodus” overseas from
                                                                                              Rugby World Cup


                                                                    British and Irish
                                                                                                                     Christchurch, post the quakes. In fact, it remains relatively
                                                                    Lions' Rugby Tour                                modest, especially in the context of the nationwide trend
                                                                                                                     to more emigration anyway. In October, 3,700 folk left
150,000                                                                                           Earthquakes, ash
                                                                                                  cloud et al
                                                                                                                     Christchurch for abroad. Since the February earthquake
                                                                                                                     the total has been 6,000. This compares to 3,700 for the
                                                                                                                     same period last year - an increase, yes, but far from a
 50,000                                                                                                              Diaspora. That‟s not to say there hasn‟t been a big loss of
                                                                                                                     population from Christchurch. Just that it‟s more been to
         1982             1986          1990           1994          1998           2002        2006         2010    other parts of the country, as recent regional population
Source: BNZ, Statistics New Zealand                            Monthly                                               data have shown.
RBNZ Survey of Expectations (Nov) – 22 November                                                                The markets, for their part, will no doubt ignore the signs
The latest inflation expectations numbers, from the                                                            of still-high NZ inflation expectations, as they remain
quarterly RBNZ survey, eased – but only a fraction.                                                            transfixed by Europe. The RBNZ, meanwhile, will be
The key 2-year-ahead annual CPI view fell by a bare                                                            hoping inflation expectations are tempered sufficiently,
0.04 percentage points to 2.82%. Heading in the right                                                          in due course, by the cooling tendency in actual inflation.
direction, but still far too high to sit easily with the                                                       We also suspect this will prove the case – although there
supposed 2.0% mid-point of Reserve Bank‟s CPI target                                                           are clear risks of inflation expectations, and inflation itself,
band. The 1-year-ahead outlook was a bit softer, but again                                                     remaining annoyingly high. If so, the RBNZ will be averse
was hardly middling, at 2.72%.                                                                                 to running monetary conditions too low for too long.
                          CPI Inflation Expectations (2-year ahead)                                            Merchandise Trade (Oct) – 24 November
                                                                                                               October‟s merchandise trade figures were another solid

                                                                                                               bunch. The monthly deficit was $282m, smaller than

                                                                                                               market expectations of around $450m. This stemmed
                                                                                                               from both higher exports ($3.88b, 5.3% y/y, versus $3.78b
                                                                                                               expected by market) and lower imports ($4.16b, 6.6% y/y,
2.2                                                                                                            versus $4.24b expected). These numbers were, to us,
2.0                                                                                                            indicative of an economy still pushing forward.

1.6                                                                    Supposed mid-point            
                                                                       of RBNZ target band
      91   92   93   94   95   96   97   98   99   00   01   02   03   04   05   06   07   08   09   10   11

 Source: RBNZ, BNZ                                  Quarterly
Key Upcoming Releases
General Election – 26 November                                                                     Building Consents (Oct) – 30 November
Unlike many European countries of late, New Zealand is                                             We reckon the big drop in September‟s residential
expected to retain its current Government and Prime                                                building consents was principally a technical correction
Minister in these general elections. There are interesting                                         from the out-sized gains of July/August, rather than the
question marks about the success and make-up of the                                                sign of a further collapse. Home sales, as a general rule,
smaller parties. However, the polls firmly suggest the                                             suggest a reasonable number for October‟s consents.
current centre-right National party will be in the box seat                                        Then again, another move in the negative direction and
to form the new Government. Most of National‟s key                                                 we‟ll begin to wonder.
policies, should it secure its second term, have already
                                                                                                                                     Building Consents and House Sales
been made clear.                                                                                    Units
                                                                                                   3,600                                                (seasonally adjusted)
NBNZ Business Survey (Nov) – 28 November                                                           3,200                                                                                                         13

Given the worsening global backdrop, we can imagine this                                           2,800
                                                                                                                 (advanced three months)

latest business survey will ebb further. The question,                                                                    (rhs)                                                                                  11
though, is by how much. Only a bit and it‟ll still be                                              2,400

consistent with the reasonable economic growth we                                                  2,000

forecast. But if the survey sags a lot it‟ll begin to question                                                                                                                                                   7
the GDP track we have. Thank goodness we‟ve come

from a relatively robust starting point.                                                           1,200                                                                                                         4
   net % who                                                                                        800                                                                                                          2
   are positive                                   Business Activity                                        94     95      96       97    98   99   00    01   02 03     04   05   06   07   08   09   10   11
   60                                                                                               Source: Statistics NZ, REINZ                              Monthly

   40                                                            NBBO, 12 month outlook            Credit Aggregates (Oct) – 30 November
                                                                                                   New Zealand‟s money and credit aggregates have been
                                                                                                   mixed-to-choppy for a while now, as businesses, farmers
     0                                                                                             and consumers alike battle on, but with a clear emphasis
                                                                                                   on controlling debt loads. This will surely remain the
                                                                                                   theme in these updated data for October.

  -40                                                      QSBO, 3 month outlook
                                                                                                   Overseas Trade Indexes (Q3) – 1 December
     1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
                                                                                                   Overall, we anticipate the Q3 Overseas Trade Indexes to
Source: BNZ, NBNZ, NZIER                               Monthly                                     confirm consolidation of recent gains. For merchandise
                                                                                                   export volumes we‟re looking for an essentially flat result,
National Employment Indicator (Sep) – 29 November                                                  which would still mean annual growth of about 4%. We
While this September-month employment update might                                                 expect merchandise import volumes to be consistent with
seem a tad redundant – given we‟ve already received the                                            clear expansion in the quarter, and over the year. As for
September quarter Household Labour Force Survey – it                                               the merchandise terms of trade, we‟re picking a pretty flat
will still give us a sense of the employment trends, as a                                          outcome for Q3 – as export and import prices fall around
lead into Q4, and as a bona fide alternative indicator.                                            5% apiece. While this would give a sense of stalling the
There was certainly a bit of momentum showing through                                              fact is it would leave New Zealand‟s terms of trade around
in August‟s National Employment Indicator.                                                         a 37-year high.
Annual %
 change                                   National Employment Indicator                             Index                                     Terms of Trade - OTI Goods
 5.0                                                                                               1450



-2.0                                                                                                 950


-5.0                                                                                                 750
   Aug-05                  Aug-06            Aug-07    Aug-08      Aug-09      Aug-10     Aug-11           57 59 61 63 65 67 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11
    Source: Statistics New Zealand, BNZ               Monthly
                                                                                                   Source: Statistics New Zealand, BNZ
ANZ Commodity Export Prices (Nov) – 1 December                                                                        Fonterra Auction – 7 December (early morning, NZT)
While further slippage is the risk for November‟s                                                                     Another Fonterra auction another case of crossing one‟s
commodity export prices we‟re not expecting anything                                                                  fingers. No one can be complacent on commodity prices
calamitous. In any case, the softening currency through                                                               at any stage. However, there has been a demonstrable
November will offer support to prices denominated in NZ                                                               robustness to New Zealand‟s over recent weeks and
dollars. Ultimately, it‟s the latter than counts the most.                                                            months, despite the obvious international angst.
 Index                                    Commodity Export Prices                                                     Wholesale Trade (Q3) – 7 December

                                                                                                                      We expect to see wholesale sales and inventory data
                                                                                                 World prices
  280                                                                                                                 consistent with the 1.2% lift in wholesale-GDP we
  260                                                                                                                 estimate. This is supported by the 2.2% jump in retail
  240                                                                                                                 volumes – the other main area of distribution.

  200                                                                                                                 RBNZ Monetary Policy Statement – 8 December
  180                                                                                                                 It was only a matter of weeks ago – 27 October to be
  160                                                                                                                 precise – that the RBNZ reiterated its tightening bias,
                                                                                                    NZ dollar         albeit a watered down one, and conditional. Now the
                                                                                                                      markets are implying the Bank will capitulate to an easing
                                                                                                                      bias. We are not so sure Bollard will cede to this. While
        96         97        98   99     00   01     02     03     04      05    06    07   08     09     10     11
Source: ANZ, BNZ                                                 Monthly
                                                                                                                      there is no doubting Europe‟s worsening situation and
                                                                                                                      outlook, there are still question marks about the extent of
Crown Financial Statements (Oct) – 5 December                                                                         global slowdown it will engender, and the impact on New
With the September quarter operating balance not                                                                      Zealand‟s economy and inflation. With this in mind, we
improving quite as much as anticipated, it will be                                                                    believe the RBNZ will prefer to run a steady line, both with
interesting to see if October‟s results make up the                                                                   its OCR decision (at 2.50%) and forward guidance. It
difference. Still, September‟s net debt was no larger than                                                            might de different if the local indicators were turning
planned and, even though set to rise, is expected to                                                                  clearly negative. But they‟re not. And inflation, while less
remain very low by international comparisons.                                                                         threatening for now, is something to monitor, while
                                                                                                                      inflation expectations simply remain too high for comfort.
Building Work Put in Place (Q3) – 5 December
We think building work will bounce around 1.0% in the                                                                 Manufacturing Sales (Q3) – 8 December
September quarter, having slumped 6.6% in each of Q2                                                                  Good agricultural processing should be enough to hold
and Q1. While there is a clear sense of frustration and                                                               this latest manufacturing survey report together. We
disappointment in the industry there have at least been                                                               expect its sales and stocks information to imply a 1.0%
signs of stability of late.                                                                                           increases in manufacturing production, as per the GDP
Real $m,s.a.
                                          Building Work Put in Place                                                  accounts.

  140                                                                                               Residential       QVNZ Housing Report (Nov) – 8 December
                                                                                                                      Crouch, touch, pause…





        1993            1995      1997        1999        2001      2003        2005    2007       2009        2011
Source: BNZ, Statistics NZ                                  Quarterly
Quarterly Forecasts
Forecasts as at 24 November 2011

Key Economic Forecasts
Quarterly % change unless otherwise specified

                                       Jun-10      Sep-10     Dec-10      Mar-11     Jun-11      Sep-11      Dec-11      Mar-12     Jun-12      Sep-12
GDP (production s.a.)                      0.2        -0.1       0.6         0.9         0.1         1.0        1.1         0.5         0.2         0.8
Retail trade (real s.a.)                   0.6        -0.6      -0.3         1.1         1.0         2.2        0.8         0.1         0.7         1.0
Current account (ytd, % GDP)              -2.5        -3.5      -3.5        -3.6        -3.7        -4.0       -3.6        -4.2        -4.8        -5.4
CPI                                        0.2         1.1       2.3         0.8         0.9         0.4        0.5         0.1         0.4         0.6
Employment                                -0.1         1.1      -0.3         1.2         0.0         0.2        0.5         0.4         0.6         0.7
Unemployment rate %                        6.9         6.4       6.7         6.5         6.5         6.6        6.3         6.1         5.8         5.5
Avg hourly earnings (ann %)                0.4         0.7       1.8         2.5         3.1         3.4        3.8         4.5         4.5         4.3
Trading partner GDP (ann %)                5.5         4.8       4.5         3.5         3.0         3.2        3.5         4.0         3.9         3.8


Interest Rates
Historical data - qtr average                    Government Stock                  Swaps                               US Rates               Spread
Forecast data - end quarter           Cash       90 Day    5 Year      10 Year     2 Year      5 Year      10 Year     Libor      US 10 yr     NZ-US
                                                 Bank Bills                                                            3 month                Ten year
      2010 Jun                         2.40         2.88      5.03        5.73       4.35        5.22        5.79         0.54      3.17        2.56
           Sep                         2.82         3.22      4.59        5.31       3.96        4.56        5.13         0.29      2.59        2.72
           Dec                         2.91         3.17      4.63        5.47       3.87        4.61        5.28         0.30      3.30        2.17
      2011 Mar                         2.77         3.00      4.47        5.58       3.62        4.56        5.34         0.31      3.40        2.18
           Jun                         2.47         2.65      4.20        5.32       3.36        4.47        5.25         0.25      3.00        2.32
           Sep                         2.40         2.83      3.96        4.68       3.38        4.20        4.91         0.30      2.41        2.27
           Dec                         2.50        2.75       4.00        4.50       3.20        4.05        4.75        0.50       2.30        2.20
      2012 Mar                         2.50        2.75       4.75        5.25       3.80        4.75        5.45        0.50       2.75        2.50
           Jun                         2.75        3.15       5.35        5.75       4.40        5.35        6.00        0.50       2.75        3.00
           Sep                         3.25        3.65       5.10        5.60       4.50        5.35        5.90        0.50       2.75        2.85
           Dec                         3.75        4.00       5.00        5.45       4.60        5.30        5.80        0.50       3.00        2.45
      2013 Mar                         4.00        4.20       4.95        5.35       4.65        5.30        5.75        0.50       3.25        2.10
           Jun                         4.25        4.45       4.85        5.25       4.65        5.20        5.65        0.55       3.50        1.75
           Sep                         4.50        4.70       4.75        5.10       4.65        5.15        5.55        0.80       3.75        1.35
           Dec                         4.50        4.70       4.70        5.05       4.60        5.10        5.50        1.05       4.00        1.05
      2014 Mar                         4.50        4.75       4.65        5.00       4.60        5.10        5.50        1.45       4.25        0.75

Exchange Rates (End Period)
USD Forecasts                                                                      NZD Forecasts
              EUR/USD USD/JPY GBP/USD NZD/USD AUD/USD                              NZD/EUR NZD/JPY NZD/GBP NZD/USD NZD/AUD                      TWI
Current         1.3364   77.08  1.5543  0.7416  0.9717                               0.5549   57.16  0.4771  0.7416  0.7632                     66.3
Dec-11          1.3400   76.00  1.5600  0.8300  1.0200                               0.6194   63.08  0.5321  0.8300  0.8137                     73.2
Mar-12          1.3800   78.00  1.5800  0.8500  1.0300                               0.6159   66.30  0.5380  0.8500  0.8252                     74.5
Jun-12          1.4000   80.00  1.6000  0.8600  1.0300                               0.6143   68.80  0.5375  0.8600  0.8350                     75.3
Sep-12          1.4200   82.00  1.6200  0.8700  1.0200                               0.6127   71.34  0.5370  0.8700  0.8529                     76.2
Dec-12          1.4000   83.00  1.6300  0.8400  1.0000                               0.6000   69.72  0.5153  0.8400  0.8400                     74.3
Mar-13          1.3800   84.00  1.6400  0.8200  0.9800                               0.5942   68.88  0.5000  0.8200  0.8367                     73.2
Jun-13          1.3600   85.00  1.6500  0.8000  0.9600                               0.5882   68.00  0.4848  0.8000  0.8333                     72.1
Sep-13          1.3500   86.00  1.6600  0.7800  0.9400                               0.5778   67.08  0.4699  0.7800  0.8298                     70.9
Dec-13          1.3400   87.00  1.6700  0.7600  0.9200                               0.5672   66.12  0.4551  0.7600  0.8261                     69.7
Mar-14          1.3300   88.00  1.6800  0.7500  0.9100                               0.5639   66.00  0.4464  0.7500  0.8242                     69.1
                                                                                   TWI Weights
                                                                                     0.2797    0.1425         0.0629     0.3023      0.2126
Source for all tables: Statistics NZ, EcoWin, Bloomberg, Reuters, RBNZ, BNZ
      Forecasts                                                 March Years                                   December Years
      as at 24 November 2011                        Actuals              Forecasts                                 Forecasts
                                                   2009 2010        2011      2012         2013    2009    2010        2011    2012    2013

GDP - annual average % change
Private Consumption                                 -1.1      0.3     2.0        1.9        2.7     -0.8     2.2         2.0     2.3     3.0
Government Consumption                               4.2      0.2     3.8        0.8       -0.8      0.5     3.4         1.7    -0.7    -0.6
Total Investment                                    -7.7     -9.5     5.9        2.7       12.0    -10.6     2.2         3.8     9.5    10.2
Stocks - ppts cont'n to growth                       0.2     -2.2     1.4        0.4        0.0     -2.9     2.0        -0.1     0.4    -0.1
GNE                                                 -1.4     -3.7     4.5        2.3        4.1     -5.1     4.2         2.2     3.7     4.0
Exports                                             -3.0      4.8     1.9        2.7        1.1      2.0     2.9         2.5     1.6     2.1
Imports                                             -4.3     -9.4    10.5        4.4        4.9    -14.6    10.3         5.2     4.6     4.5
Real Expenditure GDP                                -0.9      0.8     1.9        2.0        2.8      0.1     2.3         1.6     2.7     3.2
GDP (production)                                    -1.5     -0.7     1.6        2.5        2.9     -2.0     1.6         2.2     2.7     3.2
GDP - annual % change (q/q)                         -3.5      1.8     1.7        2.7        3.3      0.2     1.3         3.1     2.7     2.5

Output Gap (ann avg, % dev)                         0.0     -1.1     -0.9       -0.6     0.1        -1.5    -0.9        -0.7    -0.1     0.7
Household Savings (gross, % disp. income)          -0.9      1.2      5.4        5.6     5.2
Nominal Expenditure GDP - $bn                     185.2    187.4    198.0      208.7   221.1       185.9   195.2      206.0    217.6   230.8

Prices and Employment - annual % change
CPI                                                  3.0      2.0     4.5        2.0        2.2      2.0     4.0        2.7      2.1     2.9
Employment                                           0.7     -0.1     1.8        1.2        2.6     -2.3     1.3        2.0      2.4     2.1
Unemployment Rate %                                  5.1      6.1     6.5        6.1        5.1      7.0     6.7        6.3      5.3     4.7
Wages - ahote                                        5.2      0.6     2.5        4.5        4.7      2.2     1.8        3.8      4.5     4.5
Productivity (ann av %)                             -2.2      0.8     0.1        0.9        0.6     -0.8     0.6        0.5      0.8     0.8
Unit Labour Costs (ann av %)                         7.5      2.1     2.7        3.0        3.3      4.7     1.4        3.4      3.1     3.0

External Balance
Current Account - $bn                              -14.8     -3.6    -7.2       -8.7       -14.1    -4.6    -6.8        -7.4   -13.0   -16.3
Current Account - % of GDP                          -8.0     -1.9    -3.6       -4.2        -6.4    -2.5    -3.5        -3.6    -6.0    -7.1

Government Accounts - June Yr, % of GDP
OBEGAL (core operating balance)                     -2.1    -3.3     -9.2       -5.1       -2.0
Net Core Crown Debt (excl NZS Fund Assets)           9.3    14.1     20.0       25.4       28.5
Bond Programme - $bn                                 5.8    12.4     20.0       13.5       12.0
Bond Programme - % of GDP                            3.1     6.5     10.0        6.4        5.3

Financial Variables (1)
NZD/USD                                             0.53    0.70     0.74       0.85       0.82     0.72    0.75       0.83     0.84    0.76
USD/JPY                                               98      91       82         78         84       90      83         76       83      87
EUR/USD                                             1.31    1.36     1.40       1.38       1.38     1.46    1.32       1.34     1.40    1.34
NZD/AUD                                             0.80    0.77     0.73       0.83       0.84     0.79    0.76       0.81     0.84    0.83
NZD/GBP                                             0.37    0.47     0.46       0.54       0.50     0.44    0.48       0.53     0.52    0.46
NZD/EUR                                             0.41    0.52     0.53       0.62       0.59     0.49    0.57       0.62     0.60    0.57
NZD/YEN                                             51.8    63.7     60.4       66.3       68.9     64.2    62.6       63.1     69.7    66.1
TWI                                                 53.8    65.1     65.2       73.2       74.3     64.7    67.8       73.2     76.2    70.9
Overnight Cash Rate (end qtr)                       3.00    2.50     2.50       2.50       4.00     2.50    3.00       2.50     3.75    4.50
90-day Bank Bill Rate                               3.24    2.67     2.69       2.75       4.20     2.78    3.17       2.75     4.00    4.70
5-year Govt Bond                                    4.02    5.09     4.32       4.76       4.95     5.41    4.79       4.01     5.00    4.68
10-year Govt Bond                                   4.77    5.86     5.58       5.24       5.37     6.02    5.82       4.51     5.45    5.04
2-year Swap                                         3.52    4.20     3.30       3.80       4.65     4.52    3.85       3.20     4.60    4.60
5-year Swap                                         4.48    5.18     4.38       4.76       5.29     5.53    4.77       4.05     5.31    5.09
US 10-year Bonds                                    2.80    3.78     3.40       2.75       3.25     3.57    3.30       2.30     3.00    4.00
NZ-US 10-year Spread                                1.97    2.08     2.18       2.49       2.12     2.45    2.52       2.21     2.45    1.04
      Average for the last month in the quarter

Source for all tables: Statistics NZ, EcoWin, Bloomberg, Reuters, RBNZ, NZ Treasury, BNZ
                                      Forecast   Median      Last                                                             Last
Friday 25 November                                                     Wednesday 7 December
Jpn, CPI, September y/y                           -0.1%         flat   NZ, Fonterra Auction                                 +2.6%
Saturday 26 November                                                   Aus, GDP, Q3                                         +1.2%
NZ, General Election                                                   Germ, Industrial Production, October                  -2.7%
Monday 28 November                                                     UK, Industrial Production, October                       flat
NZ, NBNZ Business Survey, November                          +13.2      Thursday 8 December
UK, CBI Dist Trade Survey, November                           -11      NZ, Monetary Policy Statement                         2.50%
US, New Home Sales, October                       309k       313k      NZ, Manufacturing Sales, Q3 vol s.a.                  -0.7%
Tuesday 29 November                                                    Aus, Employment, November                             +10k
Jpn, Unemployment Rate, October                               4.1%     Jpn, Machinery Orders, October                        -8.2%
Jpn, Household Spending, October y/y (real)                  -1.9%     Euro, ECB Policy Announcement                         1.25%
Euro, Economic Confidence, November                           94.8     UK, BOE Policy Announcement                           0.50%
US, Consumer Confidence, November                  44.4       39.8     Friday 9 December
Wednesday 30 November                                                  NZ, Electronic Card Transactions, November           +1.8%
NZ, Household Credit, October y/y                           +1.1%      China, Industrial Production, November y/y         +13.2%
NZ, Building Consents, October (res, #)                     -17.1%     China, CPI, November y/y                             +5.5%
Aus, Private New Capex, Q3                                  +4.9%      Jpn, MOF Business Survey, Q3                          +6.6
Aus, Private Sector Credit, October                         +0.5%      Germ, Trade Balance, October                       +€17.4b
Jpn, Industrial Production, October 1st est                  -3.3%     US, International Trade, October                    -$43.1b
Euro, CPI, Nov. y/y 1st est.                                +3.0%      US, Mich Cons Confidence, Dec 1st est                  64.1
Euro, Unemployment Rate, October                             10.2%     Saturday 10 December
US, ADP Employment, November                     +128k      +110k      China, Trade Balance ($US), November               +$17.03b
US, Beige Book                                                         Monday 12 December
US, Chicago PMI, November                          58.5       58.4     Aus, Housing Finance, October                       +2.2%
Thursday 1 December                                                    Aus, International Trade, October                  +$2.56b
NZ, ANZ Comdty Prices ($NZ), November                        -0.6%     Tuesday 13 December
NZ, Terms of Trade, Q3                                      +2.3%      Aus, Dwelling Commencements, Q2                       -4.7%
Aus, Retail Trade, October                                  +0.4%      Aus, NAB Business Survey, November
China, PMI (NBS), November                                    50.4     Germ, ZEW Sentiment, December                         -55.2
UK, CIPS Manuf Survey, November                               47.4     UK, CPI, November y/y                                +5.0%
US, Construction Spending, October               +0.3%      +0.2%      US, FOMC Policy Announcement                         0.25%
US, ISM Manufacturing, November                   51.5        50.8     US, Business Inventories, October                       flat
Friday 2 December                                                      US, Retail Sales, November                           +0.5%
Aus, Building Approvals, October                            -13.6%     Wednesday 14 December
Jpn, Capital Spending, Q3 y/y                                -7.8%     Aus, Consumer Sentiment - Wpac, November              103.4
US, Non-Farm Payrolls, November                  +120k       +80k      China, Leading Index (Conference Board), October     +0.4%
Saturday 3 December                                                    Euro, Industrial Production, October                  -2.0%
China, Non-manufacturing PMI, November                        57.7     UK, Unemployment Rate (ILO), October                   8.3%
Monday 5 December                                                      Thursday 15 December
NZ, Building Work Put In Place, Q3 vol s.a.                  -6.6%     NZ, ANZ-RM Consumer Confidence, December              109.0
Aus, Company Profits, Q3                                    +6.7%      NZ, BNZ PMI (Manufacturing), November                  46.5
Aus, ANZ Job Ads, November                                   -0.7%     Jpn, Tankan (lge manuf), Q4                             +2
Euro, Retail Sales, October                                  -0.7%     Euro, ECB Monthly Bulletin
UK, CIPS Services, November                                   51.3     UK, Retail Sales vol., November                       +0.6%
US, ISM Non-Manuf, November                                   52.9     US, Empire Manufacturing, December                      0.61
US, Factory Orders, October                                 +0.3%      US, Current Account, Q3 s.a.                        -$118.0b
Tuesday 6 December                                                     US, Industrial Production, November                   +0.7%
Aus, Current Account, Q3                                    -$7.42b    US, PPI ex-food/energy, November y/y                  +2.8%
Aus, RBA Policy Announcement                                  4.50%    US, Philly Fed Index, November                         +3.6
Euro, GDP, Q3 2nd est                                      +0.2%P      Friday 16 December
Germ, Factory Orders, October                             -4.3% UK,    Euro, Trade Balance, October                        +€2.9b
BRC Retail Sales Monitor, November y/y                        -0.6%    US, CPI ex food/energy, November                    +2.1%
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