(Bloomberg) -- The New Zealand dollar, one of this year’s worst-performing major currencies, is emerging as a prime choice to hedge against potential US dollar strength should the global economic outlook darken.

The kiwi has lost about 2.6% in 2023, beating only the Norwegian krone among Group-of-10 currencies. The slide took place in the context of a modestly weaker greenback, with the Bloomberg Dollar Spot Index dropping 0.4% this year. 

Analysts see a much more dire outcome for the kiwi if the US currency were to strengthen as a result of an economic crash-landing or should banking crises deepen. The greenback tends to act as a haven during times of international turbulence. So with banking turmoil raising the odds of a recession, it all points to a strategy of wagering against the currency of New Zealand, whose commodity exports make it especially vulnerable to global growth cycles. 

“NZD stands out as an attractive selling candidate,” JPMorgan Chase & Co. strategists led by Patrick Locke wrote in a report Friday. The kiwi “tends to be an underperformer historically around recessions,” which makes it “a reasonable choice of hedge to the extent that macro conditions remain challenged.” 

The bank maintains short positions on the kiwi versus the Australian dollar and yen through options. Looking back at the past four decades, JPMorgan found the kiwi to be one of the biggest laggards in a period spanning from one year before a US recession through one year after it ended. It fared much worse than other developed peers and even trailed emerging-market currencies such as the Mexican peso or Brazilian real.

That outlook may encourage kiwi bears, at a time when woeful economic statistics have raised the specter of a domestic recession, leaving the currency vulnerable. Data last week showed the country’s economy contracted last quarter by more than forecast, leading financial markets to trim tightening bets.

The kiwi dollar also looks relatively expensive when compared with some commodity currencies. It’s about 2.8% above its close on Nov. 10, when China signaled it was moving toward a more targeted approach to Covid curbs. Meanwhile, the Canadian dollar and Norwegian krone have retreated.

Bank Risk 

It’s also too early to conclude the worst of the banking troubles are over, according to Carol Kong, a currency strategist at the Commonwealth Bank of Australia. 

Risks to the kiwi dollar are “tilted to the downside in the near-term” and it’s possible for it to slump below 55 US cents, from about 62 now, “if the issues in the banking sector worsen significantly,” Kong said.

The pair last traded below 55 US cents in March 2020. 

Even if financial-sector volatility subsides, the combination of higher bank funding costs, tougher lending standards and tighter credit conditions raise the risk of weaker global growth. In the view of Morgan Stanley, that combination has typically led to a stronger US dollar in the past. 

Historically, US dollar strength tends to last for a while even after the first Fed rate cut in a cycle and “it makes sense for investors to have at least some USD-long exposure” to protect against such a scenario, wrote analysts led by David Adams, the bank’s head of G-10 FX strategy. 

Morgan Stanley recommends investors increase their short kiwi position through spot trades with a target of 58 cents, implying an additional 6% drop from present levels. The kiwi dollar touched 55.12 cents in October, its weakest since 2020, before bets on China reopening gained steam.

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