The dollar wallowed near two-month lows on Wednesday after weak data supported the view that the Federal Reserve may not need to raise rates much further, while the New Zealand dollar hit two-month highs after a larger-than expected rate hike.
With the all-important U.S. monthly employment report just two days away, activity across the market was a little more subdued than it has been in recent weeks.
The Reserve Bank of New Zealand unexpectedly raised interest rates by 50 basis points (bps) to a more than 14-year high of 5.25%. In a Reuters poll, 22 of 24 economists had forecast just a 25 bps hike.
The kiwi rallied by as much as 1.1% to a two-month high of $0.6383 after the decision, before retreating. It was last up 0.1% at $0.6316.
"The outperformance of the kiwi overnight - the RBNZ never failing to surprise to the hawkish side - that really is the main theme, other than everything is trading in a range, which is what we'd expect a few days before a key U.S. data release," Adam Cole, chief currency strategist at RBC Capital Markets, said.
New Zealand now has the highest interest rates from among the G10, surpassing both the U.S., where rates are at 5%, and Canada, where they are at 4.50%.
In theory, this creates an opportunity for traders to borrow in a low-yielding currency such as the yen to fund lending in a higher-yielder, a play known as "carry", which could directly benefit the kiwi.
"We kind of like the idea that carry is coming into play a little bit going forward," Cole said. "We're seeing a degree of rate dispersion in the G10 that we haven't seen since the financial crisis and more rate dispersion would mean carry should start to matter a bit more going forward," he added.
As other central banks catch up with the Fed, the dollar will most likely lose a lot of its interest-rate advantage over other currencies and weaken this year, according to a Reuters poll of foreign exchange strategists on Wednesday.
The dollar index , which measures the performance of the U.S. currency against six others, hit a two-month low of 101.43. It was last up 0.1% at 101.59, having fallen 0.5% the previous day.
