EUR Longs Getting out of Dodge for a Few Days

It’s time. Before yesterday’s session, the EUR seemed suspended in motion, confined to a tight trading range. Something had to give. If it was not the US debt stalemate, it had to be something of a Euro flavor. Along came the Germans. Finance minister Schauble was adamant that his country was not going to be writing blank checks to the EFSF and that the Euro debt crisis was not over. The market took a hard look at last weeks EU agreement on the Greek debate and did not like what they saw. The weak EUR longs have been liquidating en masse. Spanish and Italian bond yields rallied and by default the dollar, a currency everyone and their mother were selling only hours ago, has been the winner by default.

The focus remains the same this morning, Euro denominated. Italy concluded its heavy week of Italian supply, selling EUR8b’s worth of paper. It received fairly decent bidding interest. However, expectations had been for the auction to receive decent demand from domestic buying, this did not happen. It was not a surprise to see the Government again paying ‘up’ for funding.

Initially, the EUR received support from the ‘hawk’ Mersch’s comments in Tokyo, stating that ‘the widespread belief that the premature end of the EUR as a result of the Greek Fiscal crisis is unfounded’. In a prepared speech he threw out a plethora of supporting reason for the EUR, from deficit cutting to political will. Tell that to the Germans! The strength of the EUR has been challenged by this morning’s Eurozone economic sentiment coming in on the low side of consensus expectations this month, falling -2.2 points on the headline measure to 103.2 (1 point below consensus). Exit stage right!

The US$ is mixed in the O/N trading session. Currently, it is higher against 10 of the 16 most actively traded currencies in another somewhat ‘subdued’ session.

Forex heatmap

US data yesterday was not a dollar supporter, that did not matter, fundamentals are been discounted for contagion and political bickering trades. US durable goods orders fell for the second time in three months last month (-2.1%), to a seasonally adjusted +$191.98b, providing strong proof that the ‘sluggish economy is weighing on the country’s manufacturing sector’. The market had been expecting a +0.4% rise for the month with the main negative coming from the volatile aircraft sector (defense and non-defense). The manufacturing sector has clearly lost whatever underlying momentum it had left. It’s worth noting that revisions were minimal (May +1.9% from +2.1%), while ex-transport remained at +0.7%.

Digging deeper, positives for last month were in the metal category. A negative signal for future business investments was provided by a -0.4% decline in non-defense capital orders ex-aircrafts. The market will now have to rely on tax incentives and corporate profits to encourage business to make investments down the road. The consumer, who propels the economy, spending has been constrained by the job market and higher energy and food prices. The Fed acknowledges that growth has been soft over the last few months, but they remain confident that it will pick up over time. Tomorrow we get our first taste of US GDP in the second quarter. The market should be expecting to see that growth slowed for the period.

The dollar is higher against the EUR -0.01% and lower against GBP +0.11%, CHF +0.06% and JPY +0.38%. The commodity currencies are stronger this morning, CAD +0.24% and AUD +0.32%.

Until yesterday the CAD wore the ‘safer heaven’ hat as investors happily pushed the currency towards its four-year high.The rampant currency has taken a reprieve like most of its trading partners did against the good ‘old’ dollar. Some of the growth currency moves this week have been too quick, too strong and too far.

Overall, the game plan has not changed for this commodity and interest rate differential driven currency. Technically, there was strong dollar buying by corporates and institutions, acquiring fresh dollar long positions once the buck traded on top of its three and a half year lows. Pressurizing the loonie was the US durable goods orders for June falling for the second time in three months. Growth and risk currency pairs are very sensitive to these debt ceiling and Euro-contagion headlines of late. However big picture, the currency is still riding Carney’s hawkish coat tail comment last week that has futures traders pricing in at least one more hike by year-end despite a subdued CPI print.

The Canadian dollar is guilt free from association to its largest trading partner on many fundamental fronts. Investors are looking forward to tomorrows GDP print for further currency bullish confirmation. Currently, the market is in dollar sell up tick mode (0.9497).

The AUD vaulted to a post float record yesterday after the market digested a higher than expected second quarter inflation print. Year-to-date, the currency has climbed +23% against the greenback in the past year as a mining-investment boom has driven unemployment to below +5%. With Australia inflation surprised higher, it points to rate hike rather than a cut. Core-CPI advanced by +0.9% on the quarter and +3.6% on the year against forecasts of +0.7% and +3.4%. The print is a blow for the doves who expect Governor Stevens to perform a rate cut before the year is out, beginning with a 25bp cut in December.

Coupled with ongoing dollar negativity, around US politicians inability to strike a deal before next Tuesday and the stronger than expected inflation figures means Aussie buying dip theory remains in vogue, with strong support ahead of 1.10 and option resistance at 1.11 and 1.1150 this morning.

Crude is higher in the O/N session ($97.68 +$0.28c). Oil prices came under pressure from two fronts yesterday, crude fell after weekly inventories unexpectedly increased and orders for durable goods dropped last month, strengthening concern that US economic growth is slowing.

The market had been expecting another drawdown on stocks. However, the EIA reported a gain of +2.3m barrels to +354m last week. The build up should have not been a surprise after the SPR announcement last month. The Energy Department also announced that they will deliver +30.6m barrels of crude oil from the US SPR in July and August. Not to be out done, gas inventories rose +1.02m barrels to +213.5m. Stockpiles of distillate fuel (heating oil and diesel) surged +3.39m barrels to +151.8 m, its highest level in three-months. Refineries operated at +88.3% of capacity, down-2% from the prior week and the biggest decline also in three-months.

Until the market can expect some sort of US debt resolution, the oil market should look forward to remaining volatile. Big picture, failing to raise the debt ceiling would mean the US could either default or have to cut spending on a variety of social services, which would have a negative affect on domestic oil demand, translating into lower prices.

Gold prices rose for the fourth consecutive session as the “prolonged” US debt stalemate boosts demand for the yellow metal as a haven. There was another record print yesterday after US lawmakers failed to agree on hiking the federal debt limit again, raising fears over a possible default and boosting the appeal of bullion versus alternative asset classes. The commodity did pare some of its gains on profit taking and as some investors sold the commodity to cover increased deposits on margin accounts in other markets

Year-to-date, the yellow metal has advanced +15.3% and +8.2% this month alone, heading for its eleventh consecutive annual gain. Despite many believing that a deal will be done, “Rational” fear ahead of “the” decision continues to pressurize the dollar, hurting bonds and benefiting commodities. The metal is on course for its biggest monthly advance in three-months on concerns over euro-zone debt levels as well as the US debt negotiations. Monetizing US debt rather than fiscal consolidation has investors demanding the metal as a protection of wealth. In real terms you are not making any money by just holding cash, so there is demand for gold as a store of wealth. This ‘one directional trade’ is far from over, with speculators continuing to look to buy the metal on pullbacks until proven wrong ($1,620+$2.80c).

The Nikkei closed at 9.910 up+10. The DAX index in Europe was at 7,198 down-72; the FTSE (UK) currently is 5,807 down-18. The early call for the open of key US indices is higher. The US 10-year backed up 2bp yesterday (2.97%) and is little changed in the O/N session.

US treasuries fluctuated in and out of profitability amid speculation that US debt would still provide some attraction to investors even if the nation’s credit rating is downgraded.
Bonds earlier found it difficult to rally in yesterday’s session on the stalemate in negotiations between the political parties on lifting the federal debt limit and cutting spending. The debt stalemate and Euro contagion fears have been battling it out in all asset classes. The fear of course is that even if lawmakers agree, US credit rating would be downgraded. However, on the flip side, even if Treasuries were downgraded, there’s not a lot out there of alternatives investment strategies with so much cash on the sidelines.

Yesterday’s five-year auction stopped 1.8bp behind the mid-market auction deadline quote of +1.58%. Non-dealers took +52.1% and the auction had a 2.62 bid-to-cover ratio compared to an average cover of 2.84 seen in the six prior auctions. Today we get the last of this week’s three auctions, $29b of seven-year paper. Again the market should expect dealers to do their magic and seek a concession.

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This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell