EURO Liquidation To Continue

The market is trying to get through month and quarter end without giving up too much. Some price action is unexplainable others justifiable, but whatever, liquidity and pricing remains an issue.

Data already this morning has investors reconsidering potential ECB actions next week. Euro flash CPI rose +3% in the 12-months to September, up from +2.5% in August and is well above Trichet’s target of just below +2%. Other reports showed that the number of people unemployed in the Euro region fell-38k last month to +15.739m unemployed. On the face of it, the latest inflation and unemployment numbers would appear to reduce the chance of an imminent ECB rate hike. However, analysts will be telling us this morning that any rise is likely to prove temporary, given the recent signs that the recovery is ending.

The official PMI release this weekend from China could be interesting, especially after the HSBC PMI showed another month below 50. In the US this morning, the market expects US Chicago PMI and core PCE to weigh on risky assets. This will force weak position to clean house ahead of a busy week next week.

Forex heatmap

The EFSF enhancement legislation skipped through the lower house of parliament in Berlin with a strong majority yesterday (523 vs. 85). Merkel did not need to rely on opposition votes. The coalition stood tall, reducing concerns about the ultimate survival of her government. The market concern is that despite ratification, the EFSF will not be adequate in stabilizing a government bond market as large as Italy’s. Europe continues to take baby steps, but at a market cost it seems.

Market surprises came from the US data where both jobless and US GDP beat economic expectations. Initial claims fell-37k from the previous week, to +391k. Technically, the print remains too lofty to suggest that the US job market is beginning to firm. It was the department of Labor who provided the disclaimer for the stronger print. They stated that technical and seasonal adjustment volatility likely distorted the number. The broader outlook for the US economy remains uncertain. The market would require a consistent and similar reading to prove that the trend was improving. Digging deeper, despite falling below that key psychological +400k benchmark, claim’s moving average remains elevated at +417k. Those already receiving benefits and still unemployed also fell -20k to +3.729m. Its moving average saw a drop of -4.5k to +3.743m. The early market estimates for next week’s NFP are looking for job improvement of +80k (a figure that will be revised a few times before release).

There was not much new in yesterday’s US second quarter GDP print. Growth was revised to +1.3% from a previous +1% prints. Consumers (Feds go to variable) are spending more on services. While the growth rate is faster than reported, it is not fast enough to change the outlook for too many people. The inflation category also edged higher, potentially limiting the fed’s latitude to boost the economy. The index for personal consumption ex-food and energy rose at an annual rate of +2.3% outside the Fed’s comfort zone. Not to worry, the third quarter is not looking very strong!

Finally and presently a lost cause, the NAR seasonally adjusted index for pending sales of existing homes decreased -1.2% to 88.6. This was the second consecutive monthly drop with the same excuses of causality, tighter credit conditions and a suspect job’s market with disposable income concerns.

The dollars is higher against the EUR -0.57%, GBP -0.20%, CHF -0.48% and JPY -0.01%. The commodity currencies are weaker this morning, CAD -0.74% and AUD -0.52%.

Albeit brief, the loonie did receive a temporary lift outright from its largest trading partner’s better than expected data yesterday. The releases showed an upward revision in economic growth and fewer claims for jobless benefits, buoying hopes for the US recovery. The market has been trying to grab onto risk, but it has been difficult. In the past two trading sessions the loonie has under performed and lagged against other commodity pairs on the back of BoC Deputy Governor Macklem’s comments, when he said that policy interest rates “can be reasonably expected to remain below normal for some time to come”. The statement has allowed the loonie to drift lower outright as riskier assets remain vulnerable to doubts over the ability of European policy makers to stem a debt crisis that threatens to trigger a global recession.

The CAD current performance is like a low-beta currency that is trading in a well defined range with corporate Canada itching to own some of “it” on top and risk aversion strategist looking to pick up dollars close to the greenback’s breakout level at the beginning of the week. In the last trading day of the month some currency moves will not be explainable. Investors are happy to keep their cards close to their chest until after month and quarter end trading (1.0444).

The AUD is weaken outright and versus the JPY as Asian stocks reversed earlier gains, reducing demand for higher-yielding currencies. Chinese PMI data at 49.9 last night was unchanged from August and confirms that China is showing signs of its longest contraction in two years. China is Australia’s largest trading partner. Fitch and S&P both downgraded New Zealand’s long-term foreign currency credit rating to AA from AA+. This move has supported the AUD against the Kiwi and the market is looking for that cross to breach 1.3000 medium term.

Many analysts believe the downward pressure that has been applied to this growth currency has created a price overshoot as there is too much ‘bearishness priced into the Australian interest-rate curve’. It was one of the worst performing currencies in the pass month, declining -2.4% outright.

Investors remain concerned that European policy makers will struggle to resolve their debt crisis. Despite domestically having all the strong fundamentals, cash-futures are showing that traders are betting the RBA will lower its key rate by at least-75bp by the end of the year. The RBA is expected to keep its benchmark overnight cash rate target at +4.75% at its policy meeting next week. This will allow investors to sell higher yielding assets on rallies with the top side becoming more contained (0.9717).

Crude is higher in the O/N session ($82.37 up+0.23c). Oil prices rallied yesterday following a rebound in broader markets after Germany’s lower house approved new powers for the EFSF program. It managed to pare some of the commodity’s biggest quarterly drop in three-years. The value of the dollar remains the commodity’s biggest nemesis. Crude is down -6.7% this month and -9.2% this year. Prices have dropped-14% since the end of June. Big picture, fundamentals remain very weak as economic growth is worse than expected

Last week’s EIA report showed a build up of nearly +2m barrels of crude. This is not bullish and coupled with the Euro sovereign crisis should continue to pressurize commodity prices. Not to be out done, gas stockpiles also rose +791k barrels to +214.9m last week. Supplies of distillate fuel (heating oil and diesel) increased +72k barrels to +157.7m. Refineries operated at +87.8% of capacity, down -0.5% from the prior week.

Weaker growth predicted by the IMF, which points to lower oil demand, will have dealers thinking of shorting the market again. Expect investors to run into technically selling on some of these rallies.

Gold prices continue to rally, similar to other commodities, as German lawmakers approved an expansion of the European bailout fund, easing concern that the debt crisis will escalate. US data has been better than expected. After the past ten day’s price action, investor’s continue to take a cautious approach on entering the gold market.

The eight-month low print this week seems well supported and suggests that the market may have registered its near term overshoot target ($1,530). All the bullish factors for wanting to own the yellow metal, like dollar debasement economic imbalances and sovereign periphery debt, remain. To try to apply supply and demand logic in a panicked market is near impossible. The Fed’s efforts to drive interest rates lower to support lending should, by default, support commodity prices ($1,633 up+$15.70c).

The Nikkei closed at 8,700 down-1. The DAX index in Europe was at 5,535 down-104; the FTSE (UK) currently is 5,147 down-50. The early call for the open of key US indices is lower. The US 10-year eased-4bp yesterday (1.96%) and is little changed in the o/n session.

Product further out the US curve pushed yields temporarily higher yesterday, before temporarily snapping back o/n, as the US economy grew at a faster pace than previously estimated and German lawmakers supported a stronger euro-area rescue fund. Also pressuring prices was the US treasury coming to market with the last of this week’s auctions.

The third and final tranche was the issuing of $29b 7-year notes. The auction was not as strong as the five-year sale, but did get taken down at record low yields (1.4965%). The rebound on optimism about the 7-year sale pushed yields off session year highs. The issue came with a +1bp tail and a bid-to-cover ratio of 3.02, the highest in four-months. Indirect bidders took +41.6% of the supply, above the +42.8% average of the last four issues. However, direct bidders took a record high +13.6%. With supply and placement out of the way investors can get back to some risk aversion and fundamentals!

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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