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Australia, NZ dollars on defensive as yield premiums dwindle

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The Australian and New Zealand dollars marked time on Monday as investors waited anxiously to see what the Federal Reserve would project for future US rate rises at its policy meeting this week.

[SYDNEY] The Australian and New Zealand dollars marked time on Monday as investors waited anxiously to see what the Federal Reserve would project for future US rate rises at its policy meeting this week.

The Aussie was stuck at US$0.7515 and just a whisker above last week's six-month trough of US$0.7501. A break of that support would open the way to US$0.7374, a low from June.

The currency has been on the defensive since data showed Australian consumer spending almost ground to a halt last quarter, underlining the case against a rise in domestic interest rates anytime soon.

Futures markets imply no chance at all of the Reserve Bank of Australia (RBA) moving before May, and only a 60 per cent probability of a hike by year-end.

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In contrast, the Federal Reserve is considered certain to raise US rates on Wednesday and likely stick to projections for three more hikes next year. Two increases would take US rates above those in Australia for the first time since 2000.

As a result, yields on Australian two-year debt are now just three basis points above the comparable US note, the smallest premium in 17 years.

"If the Fed forecasts and commentary lean to the positive side as we expect, then the US dollar should finish the week stronger, helping knock AUD/USD down towards US$0.7425/50," said Sean Callow, a senior forex strategist at Westpac.

The kiwi dollar is in much the same position with the Reserve Bank of New Zealand on hold for the foreseeable future, and even warning that it may have to cut again should inflation not pick up next year as expected.

Yields on New Zealand two-year paper are now only 16 basis points above those in the United States, down from a peak of 116 basis points early in the year.

That shrinkage has coincided with a retreat in the kiwi to US$0.6854, from a top of US$0.7571 in July. It has immediate chart support at US$0.6823, with a major bulwark at US$0.6781.

Locally, the main event will be the new Labour government's mid-year fiscal review on Thursday which will include an update of its budget plans.

New Zealand government bonds eased in price, nudging yields up 2.5 basis points across the curve.

Australian government bond futures also dipped, with the three-year bond contract off 2.5 ticks at 98.005. The 10-year contract eased three ticks to 97.4250, with cash yields at 2.56 per cent.

REUTERS