‘Stress test for dummy’s’ by Tim Geithner!

Explain to me how Geithner can say that the ‘vast’ majority of banks have more capital than is required? If so, why did he give them so much of a handout? Why can they not pay back the TARP monies sooner? Everything seems to be on a sliding scale for optics and to boost consumer confidence. Even the IMF predicts that losses on distressed loans could reach $4.1t by the end of next year. Geithner comments convince me that we will never get the ‘true’ stress test results in May.

The US$ is stronger in the O/N trading session. Currently it is higher against 12 of the 16 most actively traded currencies, in a ‘subdued’ trading range.

Forex heatmap

The positive headlines on Secretary Geithner about US banks having enough capital combined with the outward signs of ‘thawing’ in credit markets may help to lower concern’s of the disclosure of 19-US banks stress tests. However, he stated that there will be a ‘series of options’ for those banks that are deemed in need of additional capital. That does not sound very convincing, it sounds like some of the institutions will fair poorly on the tests. Even Obama’s senior advisors stated that the stress tests will expose some very serious problems. Someone cannot get their story straight! Is the bar raised too low? Is someone trying to pull the wool over our eyes? Until all is revealed expect this market to trade in a narrow range.

The USD$ currently is stronger against the EUR -0.09%, GBP -0.64%, CHF -0.18% and lower against JPY +0.59%. The commodity currencies are weaker this morning, CAD -0.37% and AUD -1.12%. Well BOC Carney did not disappoint. He slashed O/N lending rates by 25bp to 0.25%, a record low and expects monetary authorities to keep them on hold for a year as inflation remains below their 2% desired watermark. Policy makers believe it’s the ‘appropriate policy stance to move the economy back to full production capacity and to achieve the 2% inflation target’. He stressed that the BOC will provide updates at each future policy decision, starting this June, on its commitment to leave the key rate unchanged. He also indicated that they have enough flexibility to spur growth, including quantitative and credit easing methods. The BOC is expected to make public tomorrow its guidelines on these policies. Carney expects Canada’s economy will shrink by -3% this year, a new revision from Jan. prediction of -1.2% contraction. The initial reaction by investors was to sell the loonie aggressively after the cut, but the market ran into some far east sovereign buying which caught the market short CAD. It was a very bearish outlook from the central authorities, however Geithner comments lifted commodities and equities off the floor and by default dragged the commodity currency higher. For now expect investors to want to buy USD on deeper pullbacks.

Japanese and Australian fundamentals have pressurized the AUD in the O/N session. With Japan being one of Australia’s largest trading partners and a government report showing exports dropping for a 6-month (-45.6% y/y) has only increased concerns that the global recession continues to deeper. Couple this with an Australian inflation report, which fell to the lowest level in 18-months (+2.5% vs. +3.7%) may give the RBA legroom to cut rates again. Investors risk appetite remains fragile and the market seems to realize that the recent recovery may have been excessive. For now, look for traders to continue to sell on upticks (0.7038).

Crude is higher in the O/N session ($48.60 up +5c). Oil prices succumbed to fresh selling pressure yesterday morning session and managed to print a new 5-week low on the back of today’s EIA report that’s expected to show that inventories once again climbed to new record highs. It’s anticipated that it will rise by another +2.5m barrels w/w. Demand destruction due to global growth constraints remains the order of the day. Finally fundamentals are starting to kick in. Oil this week has pared the most in nearly 2-months on the back of a stronger greenback which has reduced the appeal of commodities. With a stronger dollar, it makes commodities less attractive as a natural inflation hedge. For a number of weeks we were getting ahead of ourselves, a strong USD and so-so equity market combined with record inventory levels did not justify higher oil prices. Last week’s EIA report showed that inventory levels had climbed to a new 19-year high. Crude stocks advanced +5.67m barrels to +366.7m vs. an expected +1.76m, the highest levels since Sept. 1990. US fundamental data is abysmal, and heightens the concerns what is happing in the mainstream economy. OPEC for an 8th-consecutative month has already pared oil demand. They lowered it by -430k barrels a day to +84.18m and expect demand in industrialized countries to fall even further, while developing economies are likely to see only minor growth. They next meet on May 28th to review production quotas. Until we see inventories decline substantially and sustainable demand destruction, there will not be a sustainable price gain. Gold has continued its rally. With global equities floundering, it has strengthened the demand for the ‘yellow metal’ as alternative investment. It’s a surprise to see it rally back close to last weeks highs. With inflation a non-issue and the threat of the IMF needing to offload 3500+ tons of the yellow metal, the market is looking to sell on upticks until proven wrong ($886).

The Nikkei closed 8,727 up +16. The DAX index in Europe was at 4,521 up +20; the FTSE (UK) currently is 4,008 up +21. The 10-year Treasury’s backed up 2bp yesterday (2.87%) and are little changed in the O/N session. The FI rally was brief yesterday with equities paring early morning losses and the Fed buying back off-the-run product in the 7-10-year bucket to try and keep rates low. Once again concerns arising over Bank’s credit losses combined with traders making the Fed pay up for off-the-run product will have FI better bid 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