EURO Clarity is Market Savior

The markets this morning have rallied on European policy “clarity”. The EU Summit seems to have fulfilled market’s expectations. Euro leaders providing clarity on Greek PSI, guidance on how the EFSF will be leveraged, and bank recapitalization plans has given confidence to investors to apply risk again. With the IMF on board, potential Chinese investing in EFSF bonds, there is no telling how much of a squeeze this market is capable of applying.

With market positions fairly short the EURO heading into the summit, ‘clarity’ has investors covering some of those positions, supporting the Euro in the near term and reducing “the extreme tail risk of contagion”. Will US Q3 GDP numbers provide the killer blow to medium term risk aversion trading strategies? If so, traditional risk and growth sensitive currencies should be one of the first to outperform.

Forex heatmap

US data yesterday was always going to have little bearing on Capital Markets direction. That would be left up to the Euro delegates, who were attending their second emergency summit in a week.

Septembers US durable headline (-0.8%) was in line with market expectations (-0.9%) after an unrevised -0.1% decline in August. Digging deeper and ex-transportation, the data shows surprising strength, with a rise of +1.7%, keeping the trend positive after a -0.4% decline in the previous month. Analysts note that expanding economies overseas and a-14% drop in the dollar in 14-months is propelling US exports to record levels. Coupled with Government incentives, is giving an added boost to companies’ bottom line. Durables, ex-transportation is up in four of the five last months. The gains appear to be broad based. Non-defense capital orders ex-aircraft (good indicator for business investment) rallied a strong +2.4%, the most since March, after rising +0.5% the prior month. The shipments of non-defense capital goods, used in calculating GDP, fell -0.9% after a +3.1% gain in August. In Q3, shipments jumped +17% at an annualized rate compared with a +11% increase in the previous three months (suggests that business investment picked up). The overall durable message is a positive one.

Other data showed that sales of new US homes rose for the first time in five months in September (up +5.7% or +313k vs. +300k), however, prices continue to drop underscoring the persistent weakness of the US housing sector. The median price for the month declined -10.4%, y/y, to +$204.4k. Despite the price drop, new homes tend to be more expensive than previously owned property or houses in the foreclosed category. Analysts note that present sales figures are well below the historical healthier levels of +750k units-per-month. The US administration continues to come up with new and sometimes innovative ways to help this depressed category. Earlier this week, the Obama administration unveiled a plan that will let borrowers refinance regardless of how far their property is under water. A weak job market, eroding home values and higher personal debt continues to pin the US economy down. The number of new dwellings on the market last month was historically low at +163k, and it would take +6.2 months to deplete inventory levels at current pace, in August, supply was +6.6 months.

The dollar is lower against the EUR +0.61%, GBP +0.05%, CHF +0.55% and JPY +0.38%. The commodity currencies are stronger this morning, CAD +0.71% and the AUD +1.69%.

For a brief period yesterday the loonie nursed heavy losses after the BoC quashed expectations of interest rate hikes and downgraded its growth forecasts, citing Europe’s debt crisis and weakness in the country’s top trading partner south of its own border. The MPR reported that the annualized pace of expansion will average +1.8% in the four quarters through June, compared with a previous estimate of +2.8%. The bank cut its projection for global growth next year by-0.9%, and it said the recovery will be slower than usual as consumers, governments and businesses reduce debt.

“Lower commodity prices and heightened volatility in financial markets stemming from the weaker and more uncertain global economic outlook are projected to weigh on the wealth and confidence of Canadian households,” the report said. Its projection assumes a “gradual reduction in monetary stimulus over the projection horizon, consistent with achieving the inflation target.” The report should convince investors that Governor Carney “will be reluctant to diverge far from the Fed on changes to borrowing costs”.

It seems that dealers are moving further out the curve and are beginning to slowly price in rate hike in the latter half of next year when inflation indicators begin to move toward the Banks +2% inflation benchmark. Carney is also predicting that the Canadian economy grew +2% in Q3 and will grow at +0.8% rate in Q4.

The loonie remains vulnerable to following the broader trends, especially to that which is transpiring in Europe. This morning the currency have broken convincingly through parity, this weeks strong dollar support level, and has printed new loonie highs on the back of changing risk sentiment attitude. Depending on what US growth numbers are like this morning, market bias is a better CAD buyer on rallies (0.9965)

The antipodeans lead the pack in the O/N session. With the RBNZ keeping rates on hold this morning and given the positive EU summit outcome, is providing the basis for a more meaningful recovery in global risk appetite in the near term, supporting the Kiwi and Aussie.

Even the fear that Australian domestic data showing that underlying inflation slowed last quarter, to its weakest pace in 14-years (+0.3% vs. +0.6%), which would allow the RBA to cut the developed world’s highest borrowing costs next week, is having little affect on investors wanting to own some. Despite futures traders pricing in a-25bp cut, the AUD remains at the mercy of global developments and progress in the Euro-zone debt aid package. The currency depreciated almost-10% last quarter on the back of weaker employment growth and global risks increasing.

How long will Euro’s euphoria have investors demanding the AUD? US growth numbers this morning will of course hold considerable weighting on that answer. The market is a better seller of the currency on rallies (1.0600).

Crude is higher in the O/N session ($91.88 up+$1.68c). Oil prices were firmly on the back foot yesterday, after weekly data showed a sharp increase in US inventory levels and as investors remained cautious about Europe’s ability to agree on a comprehensive debt package. Now we got the plan and it seems that all systems are a go in this mornings session.

Crude stockpiles rose +4.74m barrels to +337.6m vs. an expected build of +1.3m. Oil imports rose +1.45m barrels per day to +9.34m. On the flip side, gasoline stocks fell -1.35m barrels to +204.9m, slightly smaller than the -1.6m expected drawdown. The average gasoline demand in the last four-weeks fell -0.7% from a year ago. Distillates, which include heating oil and diesel, happened to fall -4.28m barrels to +145.4m. Analysts had been expecting a +1.9m barrel draw. The refinery utilization rate increased +1.7% points to +84.8% of capacity.

The rise in stocks is in marked contrast to recent price rallies. Brent’s premium over WTI has moved back above +$18, as investors noted the rise in crude stocks at Cushing, Oklahoma, the delivery hub for the light sweet crude contract. Expect investors to continue to run into technical selling on rallies as they wait for a clearer idea of where we are going on the economic front.

Gold advanced above $1,700, to a one-month high, as concerns about Europe’s debt crisis spurred demand for the metal as a protection of wealth. The commodity has been firmly in the driver’s seat all week. The disappointing US consumer confidence print provided the impetus for gold to rally aggressively as the data showed consumers were at their gloomiest in 2-1/2 years. The bullion is in its eleventh-year of a bull market as investors seek to diversify away from equities and some currencies. The metal is up +21% this year.

Everyone wanted to know the details from Europe. Lack of details pushed gold up as a safe-haven bet. Now we know them, how will this market react longer term? The commodity has also found support (store-of-value) on concern that US monetary policy aimed at shoring up growth will eventually spur inflation. Over the past two-weeks, commodities have followed the moves in riskier assets, with the precious metal’s safe-haven appeal diminishing a tad after the price purge swings in the past quarter. Stronger Chinese growth is also providing a source for support. Last week, the yellow metal rallied the most in a week, as a drop in the dollar boosted investor demand.

With global sentiment in the fragile category, gold remains the go to safer haven prospect. If we include the demand for ‘physical’ gold from India, then both of these reasons should provide the strongest tangible support to want to own some on pullbacks ($1,713 down-$10).

The Nikkei closed at 8,926 up+178. The DAX index in Europe was at 6,222 up+206; the FTSE (UK) currently is 5,666 up+113. The early call for the open of key US indices is higher. The US 10-year backed up +7bp yesterday (+2.21%) and another +3bp in the O/N session (+2.24%).

After a couple of consecutive trading day gains Treasury prices have fallen as investors pare some safe-haven bond holdings, taking profit, hoping that European leaders would get their act together and deliver a credible solution to the EU’s deepening debt crisis. The market is also making it easier to take down this week’s Treasury supply, yesterday’s $35b in five-year debt and today’s $29b seven-year notes, part of this week’s total +$99b in note supply.

The dealing desks have also reduced their short-dated holdings ahead of selling from the Fed as a part of it’s +$400b “Operation Twist” program. Yesterday, The Fed sold -$8.87b of debt due from March to September 2014 from its +$1.67t Treasuries holdings.

The $35b 5-year auction saw solid demand at +1.055%. The bid-to-cover was 2.95, above the average of 2.74 for the last four auctions. Indirect buyers bought +49.3% of the offering, the highest in 12-months. The Treasury market for the near term remains “policy-dependent, not data-dependent” until Euro’s rescue plan begins to make sustainable traction.

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