Merkel’s Pos-Still Long EURO’s

Merkel seems to burning the candle at both ends and doing everything in her power to prevent a Greek default. She is side stepping her own domestic supporters by moves of perception. Always be seen doing the correct thing, this is being fulfilled by her country’s own domestic banking due diligence of a Greek default occurring. The Chancellor, vocationally has to answer to a higher position of authority and that’s to the Euro-zone. Germany being the anointed leader, economically and politically, should supersede domestic affairs, the catch 22, its the local electorate that get you appointed. Any Greek exit from the single currency would unleash a ‘domino effect’ that must be avoided at all costs. The negative affect would be felt first hand by Merkel’s own local electorate. Its no wonder that she remains front and center, and the glue that can keep this all together. For how much longer?

The US$ is stronger in the O/N trading session. Currently, it is higher against 14 of the 16 most actively traded currencies in a ‘volatile’ trading session.

Forex heatmap

Reports of possible Chinese investment in Italian bonds this morning tried to support risk appetite. Asian equities closed higher while risk currencies rebounded from the lows recorded in late yesterday trading. Both the FT and WSJ again reported that Italian officials have held talks with China’s sovereign wealth fund and other Chinese officials on buying Italian bonds. Maybe Italian suits, but bonds not so sure. So far it is unclear whether the talks will lead to any large bond purchases by China now or in the future. Similar rumors were exposed last year and there was little evidence of any significant investments in Greece by the quoted parties. There was a token of support by the ECB this morning by buying small allotment of Italian bonds pre-auction. Small nowadays seems to be ‘much-mula’ for Trichet and company!

It seems that the Italians paid sharply higher yields to sell 5-9 year product, what is more important, demand was disappointing.

The dollars is higher against the EUR -0.46%, GBP -0.44%, CHF -0.48% and JPY -0.18%. The commodity currencies are weaker this morning, CAD -0.34% and AUD -0.51%.

The loonie started the week under water outright and above parity as risk aversion was aggressively applied on Greek fears of a default. Gradually the currency climbed to a session high versus its largest trading partner as risk aversion waned and the sell off in equities was not as badly received. The currency continues to track the broader sentiment. However, there seems to be some genuine interest to own the domestic currency at or just above parity.

Last week was the second consecutive week for the currency to decline as the BoC kept rates on hold as expected (+1%). Upcoming data this week for its largest trading partner may indicate that both industrial production and sales may have slowed. Governor Carney has applied the expected ‘dovish’ tone on the Canadian economy, explicitly noting ‘the need to withdraw monetary stimulus has diminished’ which is an ‘expected about-face from the July statement. The Governor will be turning towards becoming more concerned about global growth. For the time being, futures traders anticipate the BoC to remain on hold until the end of the third quarter of next year.

Canadian data of late has done little to have an impact on the loonies price action (last month the currency lost -2.3% and completed the first losing month in three), that has been left up to investors own attitude towards risk.

Global focus remains firmly on the Germans. What are they to do? They remain reluctant to provide any more help. Risk remains the dominant trading theme, lack of it or appreciation for it, which ever one, shattered consumer confidence will try to have investors staying closer to home (0.9971).

In the o/n session the AUD has tumbled to a new one month low versus JPY on fears that Greece may default and on a weak business outlook. The NAB business confidence index fell to-8 last month, the lowest level in two-years. Manufacturing, retail, wholesale and construction conditions all remained very weak, while mining and the service industries generally remained strong. Now that the domestic data is coming out a bit negative, there will be some questions ahead on what will happen to the Aussie economy. If anything, the RBA is likely to be on hold for an extended time, allowing investors to sell higher yielding assets. Weaker domestic data is not aiding the currency. Earlier this week, the Aussie Trade balance reported weaker than expected with the priors also revised downwards (1.83b vs. +1,92b). There’s still strong interest to sell the Aussie on rallies and buy the dollar at the moment, as it becomes tougher for the AUD to outperform while all eyes are on European issues.

However, it seems that some investors believe that the currency cannot lose. If US data continues to improve then local market pricing for interest rate cuts by the RBA will evaporate. On the flip side, if US data takes a turn for the worst, then the AUD will benefit from a weaker dollar. Now that this growth and interest rate sensitive currency would likely be supported on both poor and strong US data, certainly favors a test to trade higher, however, parity seems to be beckoning (1.0289).

Crude is higher in the O/N session ($88.62 up+0.43c). Oil rose for the first time in three days yesterday as the EUR rebounded from a six-month low, increasing the appeal of commodities as an alternate investment to the dollar, temporarily at least. The positive correlation relationship between the EUR and commodities remains intact.

Last week’s EIA inventory report revealed that crude stockpiles decreased by-4m barrels to +353.1m, but are above the upper limit of the average range for this time of year. Not as radical but on the flip side was gas inventories move higher by +200k barrels last week, after shedding -2.8m barrels in the prior week, and are in the upper limit of the average range. Analysts were expecting crude inventories to dip by-2m barrels and gas stocks to shed by -1.4m barrels. It was certainly a bullish report for prices. Oil refinery inputs averaged +15.5m barrels per day during the week, which were +6k barrels per day above the previous week’s average as refineries operated at +89% of their operable capacity.

For the moment, Crude prices continue to hold, however, the possibility that Libya may be able to export oil cargo this month, for the first time in six-months, could pressurize the asset class further.

Most commodity prices were caught flatfooted yesterday. Gold declined as some investors sold the metal to cover losses in equities that dropped on concerns that the European debt crisis is worsening. The signs of a slowing global economy have increased the demand for the metal as a store-of-value on these deeper pullbacks.

Technical analysts believe that commodity prices have recently undergone a strong correction, followed by a decent consolidation and particularly as European sovereign concerns escalate. Investors are guessing that the Fed will be required to ease monetary policy in answer to stimulate their economy. The Fed’s efforts to drive interest rates lower to support lending should curtail the dollar’s appeal and by default, support commodities eventually. As long as the market can pare back their portfolio exposure further the bids in gold remain in play ($1,816+$3.00c).

The Nikkei closed at 8,616 up+60. The DAX index in Europe was at 5,045 down-27; the FTSE (UK) currently is 5,099 down-30. The early call for the open of key US indices is lower. The US 10-year backed up +4bp yesterday (1.94%) and is little changed in the o/n session.

Treasuries yields rallied proper for the first time in a few days yesterday, up from a record low and ahead of this week’s three auctions. Technically, the market has come too far too quickly and with supply to negotiate this week, investors can expect further steeping of the US curve.

Treasuries prices rallied last week as German officials said that the government is discussing how to strengthen the nation’s banks in case Greece fails to meet the budget-cutting terms of its aid package and is unable to get a bailout-loan payment. The chatter of a 50% ‘haircut’ would be required has all asset classes under pressure.

Yesterday, the US Treasury issued the first of this weeks auctions, $32b 3’s. It was ‘so-so’ received. Despite selling at a record low yield of +0.334%, the sale was 3.15 times subscribed, below the four-auction average of 3.27. Indirect bidders took +35.7% of the supply, below the +37.7% average, and direct bidders took +10.6%, the average was +13%. Today we get +$21b 10’s and tomorrow +$13b bonds. Dealers will be expected to cheapen the curve ahead of supply and make the government pay up for the remainder of product.

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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