EURO’s Left Hand Side the Most Vulnerable?

Risk sentiment remains vulnerable to headlines out of Europe. EC President Barroso “State of the Union” has done little to garner stronger EUR support this morning. European policy makers continue to find it difficult to agree and remain split over the terms of Greece’s second bailout, with about 7 members arguing for greater private sector write-downs.

Month-end and quarter-end trading has seen the JPY benefit outright and against the EUR as Japanese exports go about repatriating some profit, and this despite speculation that the BoJ could intervene ahead of the end of its financial half-year. To date, Japanese exporters have been stung by the dollar’s -5.8% drop this year. Yen appreciation is adding support to market consensus that the EUR will retest the weekly lows again by week’s end. For a short time Euro-policy makers did improve market confidence with their correct ‘perception’ tone and rhetoric. However, similar to most Euro agreements, it tends to be short lived.

Euro event risk remains heightened with the ratification process of the EFSF amendments continuing today. This time its the Finnish parliament vote. Slovenia voted in favor of the measure yesterday and Germany is set to vote tomorrow. The sticky point in the negotiations will be about collateral. The Finnish parliamentary finance committee have already stated that if their request for collateral were denied, it would heavily impair the country’s ability to take on more liability in supporting troubled countries. This would certainly throw a wrench amongst the EFSF expansion plans. Perhaps the Euro’s left hand side remains the most vulnerable.

Forex heatmap

US data proved a bit of a challenge to investors yesterday who were otherwise caught up in the Euro euphoric belief that EU policy makers are on the verge of implementing something substantial that would stabilize global markets finally. These are certainly volatile timee and not for the faint of heart.

US home prices rose in July, driven by seasonal demand. This was the fourth consecutive monthly increase registered by the S&P’s Case-Shiller index. In the 20-City index (+0.9%, m/m), seventeen regions reported higher prices from the previous month, led by Detroit (+3.8%). However, apart from Washington and Detroit, prices were down -4.1%, y/y. The housing market continues to be impeded by the same fundamental reasons of high unemployment, an abundance of foreclosures and tighter mortgage requirements. It’s not all doom and gloom, the NAR last week reported that existing home sales rose +7.7% in August. Foreclosures accounted for +31% of sales.

The US CB’s consumer confidence again provided a print on the soft side this month (45.4), extending the prior months plummeting number, but did beat market expectations (46). Consumers continue to worry about future income. Digging deeper, expectations for economic activity over the next six-months happened to increase to 54 from a revised 52.4 in August. The present situation index, an indicator of consumer assessment of current economic conditions, fell to 32.5. This is the fifth consecutive monthly decline and a “sign that the economic environment remains weak”. Consumers continue to express a concern about current earnings, which does not bode well for present spending. The report also showed that consumers expect inflation to accelerate to +5.7% a year from now, down from +5.9% in August.

The dollars is lower against the EUR +0.20% and JPY +0.46% and higher against GBP -0.03% and CHF -0.20%. The commodity currencies are weaker this morning, CAD -0.51% and AUD -0.17%.

Any currency that could benefit from risk being applied did so in spades yesterday. The loonie, after printing a 16-month low earlier in the week, aggressively accelerated on the back of robust equities and commodity prices, as European officials discussed new actions to cut Greece’s debt and recapitalize the region’s banks. Risk trading got a boost from ‘perception’, month end and quarter end trading.

Greek lawmakers approving a deeply unpopular property tax has opened the way for the return of international lending inspectors and the release of vital aid is been seen as a huge boost to global confidence and risk appreciation. Commodity prices have also found new support which can only benefit the loonie even more as it encroaches upon key Canadian resistance point or dollar support levels outright that which marked the currency’s low on the day it began its steep sell off last week.

Last weekend, BoC governor Carney was ‘encouraged’ by euro-area policy makers’ ‘diagnosis of the seriousness of the situation’. Carney has become more concerned about global growth, especially now that the IMF has revised their growth forecasts. Investors are happy to keep their cards close to their chest until after month and quarter end trading. Risk aversion trading strategies require the bidding for dollars on pullbacks (1.0236).

The AUD retreated from its recent highs in the overnight session on the back of equities taking a back seat and Japanese exporters repatriating yen for their half-year end requirements. Even commodities trading on the softer side pressurized the Aussie. The currency dropped against all of its 16 major counterparts ahead of this morning’s US data that is expected to show that bookings for US durable goods declined. The AUD maintained losses even after sales of newly built dwellings rebounded +1.1% in August following three-consecutive monthly declines, according to reports from the HIA.

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. If anything, the RBA is likely to be on hold for an extended time, allowing investors to sell higher yielding assets on rallies with the top side becoming more contained (0.9919).

Crude is lower in the O/N session ($83.66 down-0.79c). Oil prices jumped close to +4% yesterday, and this after falling to a seven-week low earlier in the week and posting weekly losses of more than-7% last week. Similar to all commodity price action, the volatile swings are subject to whatever is said, stated or rumored out of the Euro region. Clarity on the euro zone plan is still ‘key’ and until the market gets this, current price can be anything. Presently, the fundamentals are being ignored.

This morning we get the weekly inventory report and the market anticipates a build in inventories, in sharp contrast to the last couple of releases. Last week’s EIA release was bullish for the market. Commercial crude inventories decreased by -7.3m barrels from the previous week. Analysts expected a-700k barrel decline. At +339m barrels, oil supply’s are above the upper limit of the average range for this time of year. Refineries operated at +88.3% of capacity, up +1.3% points from the prior week. On the flip side, gas inventories increased by +3.3m barrels last week and are at the upper limit of the average range.

Weaker growth predicted by the IMF, which points to lower oil demand, and production in Libya is coming on stream faster than expected, will have investors thinking of shorting the market again. Expect investors to run into technically selling on some of these rallies.

Similar to other commodities, gold rallied +3% yesterday and is +7% higher than the lowest print on Monday. This eight-month low 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.

Last Friday’s dollar decline was the largest dollar selloff on record. Investors had been selling metals to cover losses in other asset classes. Gold is one of the few assets that remain in positive territory this year and, because of this, as investors required cash, they sell the assets that have performed,

In reality, the continued concerns over euro-zone sovereign debt is likely to drive gold higher in the longer term before policy makers are forced to take more effective action. The Fed’s efforts to drive interest rates lower to support lending should, by default, support commodity prices ($1,656 up+$4.20c).

The Nikkei closed at 8,615 up+6. The DAX index in Europe was at 5,565 down-63; the FTSE (UK) currently is 5,253 down-37. The early call for the open of key US indices is lower. The US 10-year backed up+3bp yesterday (1.97%) and is little changed in the o/n session.

Product further out the US curve pushed yields higher yesterday. Treasuries fell, extending the advance of 10-year note yields from a record low print (+1.67%) earlier in the week, as speculation that Europe’s leaders are moving toward agreement on measures to counter the region’s debt crisis sapped refuge demand. Also pressuring prices is the US treasury department coming to the market with $99b’s worth of product this week.

The first debt tranche was the issuing of $35b 2-year notes yesterday. Surprisingly, they withstood the test of the Fed’s “Operation Twist”. The overall demand was strong at a yield of +0.249% and an impressive bid-to-cover ratio of 3.76, well above the four auction average of 3.28. Indirect bidders took +36.7% of the supply, above the +28.2% average and direct bidders took +12.1%. Analysts had feared that the Fed’s move to sell the short end would hurt demand, this was not to be. Today we get $35b 5’s and tomorrow, the last of the week’s issues, $29b 7‘s. The current market conditions should see good demand for supply.

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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