The trade that has plenty of ‘juice’ in it
The New Zealand dollar is not often in the market spotlight but strategists say it is the one to watch amid talk that the country could be the first in the developed world to tighten monetary policy.
The Reserve Bank of New Zealand (RBNZ) on Thursday left its key interest rate unchanged at 2.5 percent, but gave a clear signal that rates could rise next year to help contain rising house prices.
The hawkish tone sent the New Zealand dollar, also known as the Kiwi dollar, up about half a U.S. cent to $0.7985 and to about 1.146 to the Australian dollar – its strongest level since November 2008.
An interest rate hike would make New Zealand the first country in the developed world to tighten its monetary policy at a time when central banks in the U.S., Europe and Japan are expected to keep key lending rates low to support economic growth.
"The RBNZ has signaled a tightening bias and thus the 'Kiwi' has once again emerged as the currency of choice alongside the dollar," said Chris Weston, chief market strategist at trading firm IG.
"The market now sees this as the most hawkish central bank in the G10 and we see the bank lifting the cash rate in the first quarter of 2014," he added.
Analysts said they favored taking a long position in the Kiwi dollar, or a bet on the currency rising, against the Australian dollar and British pound.
They added that the currency was looking particularly strong against the battered Aussie dollar, especially at a time when Australia's central bank is expected to cut interest rates again.
"We are short Aussie/Kiwi and have been since January – we're half way through that trade and think there's plenty of juice left in it," Gareth Berry, currency strategist at UBS Investment Bank, said on CNBC Asia's "Squawk Box."
"What's happening and what's likely to continue is that policy settings in Australia and New Zealand are starting to converge, while the policy stance of those two central banks are starting to diverge. We have a dovish RBA [Reserve Bank of Australia] and a relatively hawkish RBNZ," he said.
Australia's benchmark interest rate is at a record low of 2.75 percent. Most analysts expect the central bank to lower rates in August to prop up a flagging economy.
(Read more: RBNZ says has intervened to lower currency)
"We've changed our call for the RBA this morning and expect a 25 basis point rate cut in August," said Nick Verdi, director for currency strategy Asia-Pacific ex-Japan at Barclays, said on CNBC Asia's "Cash Flow."
"The central bank, it seems, has given its blessing for a weak currency and the yield advantage it once afforded is being seen as a disadvantage by the RBA so it's likely to cut," he said.
IG's Weston said he expected the Kiwi dollar to strengthen to 1.1275 against the Aussie dollar in the immediate future. "Aussie dollar/Kiwi dollar looks good from both a fundamental and technical basis for a move to 1.10 over time," he added.
— By CNBC.Com's Dhara Ranasinghe; follow her on Twitter @DharaCNBC