EUR small squeeze has begun

The World Cup could not have come at a better time. It is breathing some life back into this jaded market, albeit with some liquidity issues during televised games, go figure. To date, the failure of regional leaders and policy makers to improve the EUR sentiment has meant elevated volatility and weakness for the currency. Some respected vocal comments like Soros stating that we are only entering Act 11 of the Euro-debt crisis certainly does not help the currency per-se. However, the EUR is beginning to hobble higher, continuing to break above points of technical resistance vs. the dollar as global sentiment coupled with no ‘new’ negative news is beginning to cause second guessing amongst traders and there negative bets. The weaker shorts and the macro positions s/l’s that have been dragged down are in danger of being triggered. A market close above the 1.2220 opens up the way for the currency to test the larger stops closeer to 1.2500. Intraday traders are setting themselves up for a World Cup currency whiplash.

The US$ is weaker in the O/N trading session. Currently it is lower against 13 of the 16 most actively traded currencies in an ‘orderly’ trading range.

Friday provided mixed headline results for the US economy. The surprise in Retail Sales (-1.2%) could have been over interpreted, the unexpected decline is primarily a function of a -9.3% fall in the volatile building materials category. ‘Overall’ sales were dragged down by an unexpected -1.7% decline in auto sales and a -3.3% price related drop in gas station receipts. However, analysts note, despite the weakness of all three categories, they do not feed into the broader economic aggregates. The decline in nominal gas, which was the only one of these categories where a negative number were expected, was driven by the steep drop in gas prices in the month. It’s worth noting that the volatile building material category declining is again proof that that the new construction is receding in spite of the ‘tax-credit induced spike in earlier months’. If one looks beyond the above categories, the narrowest core measure of retail sales rose by +0.1% last month. Consumer spending still appears on track to post an increase in inflation-adjusted terms in May. On reflection, it seems that the market’s reaction may have been overstated. Certainly off-setting the retail sales print somewhat has been the University of Michigan Consumer sentiment Index, surprisingly advancing 2pts to 75.5 this month, achieving the highest print in two and a half years. The headline print was also accompanied by improvements in the inflation expectations measures. The long-term inflation index fell to +2.8%, while the year-ahead index moved from the top of its recent range last month (+3.2%) to the lower part of the range in the ‘preliminary’ month estimates (+2.7%). Analysts believes that consumer spending remains firm and continues in the right direction, but also warn that even with an upward consumer spending trend, household sentiment data as a whole remains uncertain for this month and it may not adequately be accepted as a measure of spending intentions.

The USD$ is lower against the EUR +0.49%, GBP +0.67%, CHF +0.69% and higher against the JPY -0.03%. The commodity currencies are mixed this morning, CAD -0.13% and AUD +0.35%. The loonie had a stellar week last week, rising the most in three months, as both investors and dealers increased their bets that economic growth will eventually fuel demand for commodities. Stronger compelling data out of China and other Australasian members encouraged investors again to strap on some risk, boosting commodity and equity prices. This is always a plus for growth currencies. With Trichet giving his own policies a thumb up and stating that monetary policies ‘will do all that’s needed to maintain price stability over the medium term’, seemed to give the ‘stability theme’ a boost. For most of this week, the CAD found support from its own domestic fundamentals and the idea of using the currency as a proxy for a safer heaven asset. Overall, the loonie is certainly holding its own after the BOC’s rate hike. Year-to-date, the currency has been the worlds second best performer (+11.4%) vs. its southern neighbor after the JPY. With the upcoming G8 and G20 meeting in Toronto, expect Canadian policy makers to become more vocal on how the impact of Europe’s debt crisis on Canada may escalate. Using the loonie as a safer way to play an economic recovery in the US with linkage to commodities and less banking or fiscal noise has speculators better buyers of the currency on dollar rallies.

The AUD dollar has found traction again on the back of regional bourses seeing black on the back of stronger US consumer confidence numbers on Friday. Stronger domestic fundamental data continue to aid the AUD. Last week, the Australian employment data surprised to the upside, adding +26.9k new jobs vs. an expected +20k and pushing the unemployment rate down from +5.4% to +5.2%. It was the third consecutive month of job gains, emphasizing the RBA’s call that that economic growth will accelerate this year. Dealers have been increasing their bets that Governor Stevens will resume the country’s most aggressive round of monetary tightening. Currently Australia’s jobless rate is almost half that of both the EU zone and the US’s. Up until this point, questionable global growth has thus far naturally dampened demand for ‘commodity currencies’. Not containing Europe’s debt issues could lead to a global double dip and an aggressive sell off in the growth currencies. So far, it seems that the crisis in Europe has not had a material impact on the Australian economy. China is Australia’s unknown variable. Depending on equities and commodities, some investors are looking to buy AUD on dips (0.8609).

Crude is higher in the O/N session ($75.23 up +145c). Crude prices fell on Friday after a disappointing US retail sales report. It persuaded investors to pare their positions after the commodity had appreciated +7%, over the previous sessions, on the back of positive global expansion reports from China, Japan and Australia. Again, initial positive global bourses and a EUR finding some traction have dragged the commodity higher. Last week’s EIA report had temporarily provided an underlying bid to the market. The report revealed that oil inventories fell for a second straight week, easing worries about excessive domestic supply. Crude stocks fell -1.8m barrels, more than double the streets estimate of a -700k decline. It’s worth noting that the decline in inventory was not accompanied by a clear decline in demand. The US demand was at +19.376m bpd, down -3.2%, or 645k barrels w/w. On the flipside, gas inventories were expected to fall -400k bpd were little changed, down by just -8k barrels, to +218.9m. Interestingly, over the last four weeks the EIA said gas demand lagged year-ago levels by -1% at the start of the summer driving season. However, the IEA have increased its demand forecast for worldwide oil use in 2010 by +1.7m, or +2%, to a record +86.4m barrels a day. In fact, they have bolstered its projection from outside the OPEC by +65k barrels a day. Distillates stocks (including diesel and heating oil) increased by +1.8m barrels, about six times the expected increase. Refineries lifted operations relative to capacity to 89.1% from 87.5% last week (the highest rate in two years). It’s all about demand and as long as there is a perception of stronger demand then pull back is to be bought. However, short term technicals continue to point to a market being overbought as analysts begin to question second half growth.

After recording a record high on June 8th, the ‘yellow metal’ temporarily fell back to reality as the EUR and global equities rebounded somewhat, thus eroding the precious metal’s safe haven appeal. On Friday, the weaker prices were attractive enough for the market to push the metal higher to extend its third consecutive winning streak. Because commodity prices have not broken down in a major way has technically encouraged individuals to want to own it for hedging purposes. It’s worth noting that the ‘yellow metal’ has outperformed equities, FI and other commodities this year because of the European Sovereign debt crisis. Gold has gained +12% as the EUR plunged -16%. Generally, it has become the benefactor when all other currencies fail. The questionable EUR has pushed investors to owning the yellow metal. Europeans have been content in using the commodity as a hedge against their European holdings, believing that the EUR has not bottomed out just yet. On the flip side, historically, ‘the physical market is unlikely to provide much support for gold over the summer months which are typically the seasonally weakest for jewelry demand’. Buyers are waiting in the wings to purchase product on pull backs ($1,232 +230c).

The Nikkei closed at 9,879 up +174. The DAX index in Europe was at 6,126 up +76; the FTSE (UK) currently is 5,200 up +36. The early call for the open of key US indices is higher. The US 10-year eased 3bp on Friday (3.24%) and again backed up 3bp in the O/N session (3.27%). Treasuries recovered some of the previous day’s losses after the unexpected US retail sales data (see above). Dealers do not get the sense that the ‘US economy’s momentum is being built upon, at least according to what the Fed is looking at’. The Beige book data last week tempered somewhat any concerns about inflation. No inflation pushes investors to seek yield for portfolio surety. This requirement is expected to be ongoing as analysts expect the US economy to slow in the second half of this year, thus skewing all inflation projections. Record-low inflation and prolonged unemployment means that the Fed will hold off on raising interest rates until 2011. For now, risk-on and risk-off is dominating intraday action. The 10-year yield resistance remains at 3.285%.

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