NZD/USD Faces Potential Bounce As Steep Sell-off Shows Signs Of Slowing

The positive tailwinds of the US electoral outcome combined with expectations of more monetary policy tightening in the pipeline have seen the NZD/USD pair give up significant ground as New Zealand races to stave off deflation.With interest rates in both countries gradually converging, the stage is set for further losses in the pair despite being slightly oversold near-term.Thanks to a combination of fiscal and monetary policy expectations combined with the starkly different outlooks, the bounce from 2015 lows may have met its end.

Policy Convergence Underway

With the move to reduce the benchmark interest rate by 25 basis points earlier in the month, the Reserve Bank of New Zealand sent the New Zealand dollar reeling almost immediately.Since the decision, the currency NZDUSD pair has retreated nearly 350 pips, with the price action trending just above a key support level.Stagnant inflation has forced the Central Bank to act to accommodate conditions as China continues to export deflation globally.According to the latest figures, consumer price inflation printed at 0.40% during the third quarter of the year, remaining well-below the 1.00-3.00% targeted by the RBNZ.

In an effort to raise the measure and prevent the more insidious ramifications from occurring, the Central Bank has taken an incredibly dovish stance towards policy.The RBNZ’s view is that significant spare capacity remains in the economy while the local currency remains slightly overvalued.At 1.75%, record low interest rates are benefiting the economy to a degree, especially when considering unemployment is at the lowest point in 8-years.However, with inflation barely budging, more action may be in the pipeline.With forecasts showing expectations of additional easing during the second quarter, the convergence of interest rates between the US and New Zealand set the stage for further NZDUSD losses over the medium-term.

According to Fed Funds futures, the likelihood of December action from the US Federal Reserve is currently sitting at 100.20%.It is difficult to imagine any factors that could derail the move between now and December 14th, but risks remain nonetheless.Should US employment figures due the first week of December disappoint, the probability of action may actually fall.Furthermore, a black swan event that catches financial markets by surprise could give pause for caution.In spite of these risks, positive data and more hawkish comments from key officials seem to indicate a rate hike is a foregone conclusion.As a result, USD could be poised to extend recent gains against NZD while catalyzing the resumption of the longer-term downtrend in the pair.

Technically Speaking

Looking at the price action of the last several months, it becomes clearer that NZDUSD has found a top, especially amid rising US interest rate hike speculation.While the recent retreat does suggest that the pair is slightly oversold, there is a chance that the pair has much lower to go from current levels.Although NZDUSD bounced high from key support at 0.6970, the head and shoulder’s bearish pattern does have a predominantly downward bias.With the neckline broken last week to the downside, the retest of the neckline could provide an optimal entry point.

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If a confirmed breakout corroborated by higher trading volumes and greater price momentum, a move lower ranging between 205-255 pips lower would not be considered unreasonable.However, a candlestick close back above the neckline could suggest a breakdown in the pattern, especially if the shoulder line on the upside is overtaken.With the Stochastic Oscillator trending in oversold territory, a near-term bounce higher would not be unreasonable, especially in light of the recent trend lower.Should both the %K and %D lines cross back above the 20.0 level, it could suggest a near-term bullish opportunity.

Hurting the upside prospects of the NZDUSD pair is the 50-day moving average, which is currently trending lower above the price action and acting as resistance.While the 200-day moving average has been acting as support, any candlestick close below the level could signify added bearish price momentum ahead.The real test near-term will be whether support at 0.6970 holds, with any break lower paving the way towards support at 0.6675.

Looking Ahead

Although little in the way of sentiment is expected to change this week considering the upcoming Thanksgiving holiday, a trend reversal for NZDUSD could very well be underway.Any break of key support could be the first stage of a sustained move lower in the pair.Considering the convergence of interest rates with the RBNZ forecast to cut further and the FOMC expected to hike, more downside could rapidly unfold in NZDUSD.Even though a near-term bounce is possible when taking into account certain indicators that the move is oversold, should the US move to tighten rates, the downward trend is set to accelerate over the medium-term.