New Zealand Dollar to Drop on Lower Rates, Morgan Stanley Says

By Candice Zachariahs

July 30 (Bloomberg) -- The New Zealand dollar will extend its decline as the central bank cuts interest rates at a quicker pace than anticipated by traders, said Morgan Stanley, advising clients to use options contracts to benefit from the drop.

The second-biggest U.S. securities firm forecasts that the Reserve Bank of New Zealand will reduce the benchmark rate by a half-percentage point to 7.5 percent at its next meeting on Sept. 11, in a research note yesterday. The bank will lower rates to 7 percent by the end of the year, Morgan Stanley said.

``With the growth outlook deteriorating faster than we anticipated and the scope for more aggressive RBNZ rate cuts, New Zealand dollar weakness could be more pronounced than we initially expected,'' wrote Sophia Drossos, a New York-based currency strategist at Morgan Stanley, in the research note.

New Zealand's dollar earlier reached a 10-month low of 73.47 U.S. cents, before trading at 73.83 cents at 12:47 p.m. in Wellington, from 74.06 cents in late Asian trading yesterday.

New Zealand dollar-U.S. dollar put spreads offer an ``attractive way to position for further'' weakness in the currency, wrote Drossos. A put-spread strategy is one where an investor sells a put option contract, which is an agreement that gives the buyer the right to sell an asset by a specified date, while buying a put option on the same underlying security but with different expiration dates or exercise prices.

Options Strategy

At a spot price of 73.90 cents, investors should buy a New Zealand put option with a strike price of 72 cents, according to Drossos. Investors should also sell a put option at a strike price of 66.65 cents, offering a potential profit of as much as 5.35 cents on each contract, she wrote.

The kiwi has weakened 3.1 percent this month, the worst performer of the 16 most-traded currencies versus the U.S. dollar, on speculation further rate reductions will make the currency less attractive to overseas investors. The RBNZ lowered its official cash rate to 8 percent on July 24, from 8.25 percent, and said further cuts were likely.

The odds that the RBNZ will lower its benchmark interest rate by a quarter-percentage point at its September meeting were 100 percent, a Credit Suisse Group index based on interest-rate swaps showed yesterday.

``With the RBNZ beginning the easing cycle slightly earlier than expected, and the softening in data making the case for a more aggressive easing cycle than what is currently priced into New Zealand short rates, we anticipate the New Zealand dollar weakness to broaden out,'' said Drossos.

To contact the reporter on this story: Candice Zachariahs in New York at czachariahs1@bloomberg.net