EURO-three strikes your out

With Moody’s promoting contagion fears by constantly credit threatening, has the EUR eyeing new-lows. It will be easily achieved in this illiquid, disinterested market, that’s focused on the weather channel. The chances of receiving Euro-periphery clarity before year-end looks unlikely. We probably would get better odds that the SNB would step into the currency markets, exploiting thin end-of-year liquidity to halt the currency’s rise than anything of meaning to support the EUR. Investors continue to flock to own the CHF due to the lack of progress in periphery issues. With spreads widening, liquidity remaining thin, will promote some irrational unexplained market movements. Try not to over think, the game plan remains the same.

The US$ is weaker in the O/N trading session. Currently, it is lower against 11 of the 16 most actively traded currencies in a ‘subdued’ O/N session.

The EUR has too many strikes against her not to trade lower. Continued worries in the Euro-zone that the regions leaders still are not doing enough to prevent contagion fears has led to the recent strength in the CHF and the dollar. At the Euro summit last week, leaders agreed to form a permanent sovereign debt resolution mechanism after 2013, but failed to expand the current bailout fund. Another waste of Euro time and resources as personal agendas continue to cloud a solution.

The USD$ is lower against the EUR +0.18%, CHF +0.52%, JPY +0.05% and higher against GBP -0.15%. The commodity currencies are stronger this morning, CAD +0.03% and AUD +0.20%. The loonie continues to modestly underperform against its major trading partners despite the stronger fundamentals out of the US. It weakened for a third consecutive day yesterday as commodity and equity prices fluctuated, Canadian wholesale prices disappointed and ahead of perceived weaker CPI data this morning. Canadian policy makers remain weary of Europe’s funding challenges, US growth risks and with benign domestic Canadian inflation worries will not pressurize the BOC to tighten monetary policy any time soon. This month the loonie has gained +0.5% outright vs. its largest trading partner. The currency has only witnessed modest strength compared to other growth sensitive currencies as Governor Carney highlights the dangers of a persistently strong domestic currency. The loonie continues to struggle within striking distance of parity because of the strong corporate interest to own dollars there. Better dollar buying remains on dips.

‘Monetary policy was judged to be mildly restrictive’ according to the RBA minutes last night, the reason Governor Stevens left rates unchanged two week’s ago (+4.75%). Household ‘restraint, if it continued, would provide some scope for investment to rise without causing aggregate demand to grow too quickly and inflationary pressures to build’ according to policy makers. Members ‘observed that the restraint being shown by households, and the pickup in the saving rate, would help reduce the medium-term risk from household balance sheets after a long period when debt ratios had risen, and would help to make room for the expected increase in investment’. The AUD got a lift from Chinese remarks stating that they had taken steps to help the European Union with its debt problems, supporting demand for higher-yielding assets. A higher risk appetite is spurring a shift of money to the Aussie and other commodity sensitive currencies, temporarily at least. The currency has been trading under pressure outright as US Treasury yields climb, narrowing the yield advantage of assets down-under. Year-to-date, the currency has climbed +9.7% (second biggest winner after JPY), on prospects for commodity-driven economic growth and the yield advantage of the nation’s debt compared with other developed markets. Investors remain better buyers on dips, planning an assault on parity again (0.9951).

Crude is higher in the O/N session ($89.66 +29c). Oil is trading close to a two-year high as cold weather boosts demand for heating fuels in Europe and North America. Investors continue to speculate the US economic recovery will accelerate next year, again boosting fuel demand. Last week’s EIA report showed that stocks plunged -9.85m barrels to +346m vs. an expected decrease of -2.5m barrels. Also aiding prices was imports falling-15% to +7.69m barrels, the lowest level in two years, and refineries operating at +88% of capacity, the most in three months. It’s worth noting that inventories along the Gulf Coast (where 50% of US refiners are located) fell -9.02m to +173.4m as the region levies taxes on year end supplies. The large draw down is mostly due to end of year inventory management at refineries. Coupled with OPEC announcement to maintain their production quotas and the PBOC refraining from tightening monetary policy is supporting the market, probably to the year end at least. OPEC believes that supply and demand are ‘in balance,’ and expect demand growth will slow as the global economy struggles to recover, amid ample supplies. Technically, expect the market to meet resistance again at the $90 high printed earlier this month.

Gold prices continue to fluctuate as the EUR slumps vs. the dollar amid mounting Euro-zone debt concerns. Investors have also been booking year end profits following a +25% rally this year, temporarily eroding demand for the precious metal as an alternative asset. The stronger US data of late points to a recovering economy with a low inflation rate. However, thus far, the commodity remains supported on deeper pull backs by the persistent concern over Euro debt levels. Even though the one direction trade feels overdone, investors continue to hold gold as a hedge against a currency debasement and long-term inflation. The Euro-zone backdrop is trying to put a floor on metal prices on demand for a haven. The commodity is poised to record its 10th consecutive annual gain ($1,388.90 +$2.80c). Technical analysts believe that gold will outshine other precious metal in 2011 and peak somewhere above $1,600 in 2012.

The Nikkei closed at 10,370 up +154. The DAX index in Europe was at 7,058 up+39; the FTSE (UK) currently is 5,932 up+41. The early call for the open of key US indices is higher. The US 10-year backed up 2bp yesterday (3.34%) and is little changed in the O/N session. Treasuries erased yesterday’s early morning gains after US equities recovered from the lows of the day, diminishing the refuge appeal of government debt. Previously, the demand for government safety increased on the back of South Korean military drills and on the Fed’s buyback schedule. Liquidity remains a premium as we enter the holiday stretch. The 2/10’s spread has widened to 278bp. The market seems cautious about anything good for bonds ‘coming out of the tax-cut extension’. With the US economy continuing to improve and the fear of deflation gradually disappearing will eventually push yields higher.

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