EURO Bleeds

The US Debt debate seems so long ago and it has not even passed the Senate yet! The Capital market is already turning its focus away from the ‘deal’ to global economic deceleration concerns and this weeks jobs report.

A US report this morning is forecasted to show personal spending stagnated in June, a day after US manufacturing survey data fell to a new two-year low. The repercussions from the ‘bill’ signing will be more spending cuts and an economic activity slowing further as a result. Bernanke, can we say QE3? Collectively, investors will now need to readdress their global growth expectations for the second half of this year, as the world’s largest economy begins to hobble.

This morning, the EUR is back on the chopping block as more Italian fears pressure the currency, pushing the CHF to new record highs and putting both the CHF and JPY on intervention watch. Concerning the JPY, the price action reflects dollar weakness rather than JPY strength. This should keep Finance Minister Noda from rushing the gates. Price action divergence from fundamentals would likely lead the SNB and BoJ to view price action as ‘excessively speculative’. This scenario could be overcome with intervention. However, we are not there yet. Lookout below as you go.

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

Forex heatmap

Finally, after much political grandstanding, the House has finally passed a vote on the debt ceiling last night. The House of Representatives approved an increase in the US debt limit by at least +$2.1t and cut federal spending by -$2.4t. The bill was passed by 269-161. In normal circumstances, we are led to believe that this should lead it to it being passed by the senate vote at noon today. However, these are not normal times. What will the rating agencies think of the deal? Potentially, there is a good chance that the US will be downgraded by a notch by ‘one’ of the agencies. Why? The deal is not the $4t expected!

Weakening PMI’s have spurred concern that global economies may relapse into another recession. Reports yesterday showed that US ISM fell to its lowest level in two-years. Other global reports revealed that factory indexes from Asia to Europe fell last month as demand weakened.

In the States, the manufacturing survey was much weaker than expected last month. The national reading fell more than four points to a two-year low of 50.9 vs. last months print of 55.3. Digging deeper, red flags were seen in employment (-6.3 points to 53.5) and supply deliveries (-5.9 points to 50.4). Despite providing a print that was also under pressure, the core-orders and production indexes fell by smaller margins (-2.4 and -2.1 respectively).

Expect there to be some revisions to this Friday’s payroll estimates. To date, median market expectations are looking for a July print of +118k, up from the +57k private print in June. Yesterday’s manufacturing survey argues possibly for little if any improvement in on last month release.

A pleasant surprise, thrown in amongst yesterday’s House bill fiasco was the US construction spending report. The June increase of +0.2% straddled expectations, however, there was a sizable upward revisions to April and May (May +0.3% from -0.6%). The report certainly does not change the negative landscape of this sector, but analysts do point out that second quarter GDP should be revised higher.

The dollar is higher against the EUR -0.38%, GBP -0.06% and JPY -0.21% and lower against CHF +0.51%. The commodity currencies are mixed this morning, CAD +0.09% and AUD -0.91%.

Similar to most European countries, north of the forty-ninth parallel experienced a long holiday weekend and has been at the mercy of global risk on and off flows dictated by a US debt ceiling agreement and a weaker global manufacturing survey number yesterday. The loonie, like all commodity and interest rate sensitive currencies, fell as commodities and equities erased some of last months gains.

For most of last week the CAD wore the ‘safer heaven’ hat, along with the CHF and JPY, as investors happily pushed the currency towards its four-year high. The rampant currency has taken a reprieve like most of its trading partners have done outright against the dollar. Recent moves have been too quick, too strong and too far, despite the currency continuing to perform well on the crosses.

Last week, 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 dollar lows or CAD highs. Weaker global fundamentals will continue to pressurize this growth sensitive currency in the medium term. This shortened trading week will focus on a couple of Cbanks interest rate decisions and a North American employment release this Friday. Canada is expected to add another +20k new jobs and to keep the unemployment rate unchanged at +7.4%. However, the currency will be at the mercy of the NFP report. The market will want to see how the debt ceiling decision pans out during this mornings sessions before committing to anything medium term (0.9565).

The AUD was the big loser in the O/N session. The RBA kept rates on hold as expected (4.75%). Global markets have reacted negatively to the announcement. In his communique, Governor Stevens signaled a tightening bias once the world outlook improves. Global data of late is pointing towards a ‘double-dip’ recession scenario. In the futures market, the pricing of an RBA cut has increased +15bp to +41bp over the next 12-months. While the RBA again pointed to downside risk to the global outlook, it also added that it is concerned about Australia’s medium term inflation outlook. Last weeks inflation data would suggest that there is a greater possibility of an RBA hike rather than ease in the latter half of this year, of course that all depends on world growth. In the short term, there remains better buying of the currency on these deep pullbacks, despite commodity prices remaining vulnerable (1.0866).

Crude is lower in the O/N session ($93.95 -0.94c). Crude oil prices declined yesterday to a one-month low after a disappointing US manufacturing survey showed growth growing at its slowest pace in two-years. This is strong proof that economic expansion is faltering in the US. It seems that consumers are reducing their buying habits in response to a sluggish job creation and higher fuel costs. Last week, US GDP climbed +1.3% last quarter, after expanding +0.4% in the first three-months of 2011. This is the worst performance since the start of the economic recovery two-years ago.

The last EIA report has put commodity prices under pressure after inventories unexpectedly increased. The market had been expecting another drawdown on stocks, however, the EIA reported a data gain of +2.3m barrels to +354m last week. The build 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’s 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 has absorbed the US debt resolution, oil prices can be expected to remain volatile on the back of weaker fundamental data. This week we get to see the ‘grandaddy’ of all fundamental data, NFP.

Gold prices fell for a third consecutive day yesterday on investor sales after the commodity surged to new record prints last week as the “prolonged” US debt stalemate boosted demand for the yellow metal as a haven. Some investors needed to sell the commodity to cover increased deposits on margin accounts in equity markets. The yellow metal has been able to find some its lost luster in the O/N session.

Year-to-date, the yellow metal has advanced +13.3% and +8.2% last month, heading for its eleventh consecutive annual gain. This ‘one directional trade’ is far from over, with speculators continuing to look to buy the metal on pullbacks until proven wrong. There remains a demand for the commodity as a store of value ($1,627 +$6.20c).

The Nikkei closed at 9,844 down-121. The DAX index in Europe was at 6,897 down-56; the FTSE (UK) currently is 5,744 down-30. The early call for the open of key US indices is lower. The US 10-year eased 4bp yesterday (2.71%) and is little changed in the O/N session.

Treasuries prices have rallied, pushing 10-year yields to their lowest level in nine-months after a gauge of US manufacturing weakened to a two-year low yesterday. Last Friday’s softer than anticipated GDP report was the instigator to pushing yields much lower in amongst the US debt ceiling debate. The US ISM figure was certainly a negative surprise offsetting the optimism about a final vote on the debt ceiling during yesterday’s session. Capital markets are already turning its focus away from the debt deal to the global economic deceleration and this weeks jobs report.

What will the rating agencies think of the deal? Potentially, there is a good chance that the US will be downgraded by a notch by ‘one’ of the agencies. Why? The deal is not the $4t expected and there remains a strong possibility that the “debt ceiling” may not be raised in the future. If Treasuries were downgraded, there’s not many alternatives investment strategies out there, this should provided bids on pull backs.

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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