Is it true? $400 billion! When will the bleeding stop?

It’s believed amongst a few that banks need to realize another $400b of ‘bad asset’ write-downs, thus requiring further US government capital injections. The innuendos and rumors, all denied by Treasury, has 16 of the 19 financial institutions failing the ‘stress test’ and being insolvent. It’s hard to believe that the US government first of all would allow this and secondly, they have not completed the final results which do not become public until May. However, BoA’s stock closing down -24% as they increased their bad loan provisions significantly, has sent investors scrambling to close out some of the 6-week equity gains we have witnessed. These reversals in global equity markets have triggered a risk aversion attack and the dumping of the FX ‘carry trades’. How do we believe the banks? Even Citi made $2.5b betting on itself to survive and padding their quarter’s numbers. It’s all optics!

The US$ is weaker in the O/N trading session. Currently it is lower against 14 of the 16 most actively traded currencies, in a ‘subdued’ trading range.

Forex heatmap

Yesterday’s conference board leading indicators fell more than forecasted last month (-0.3% vs. -0.2%), implying that a swift recovery from this deep recession, the worst in over 50-years is many months away (it’s a forward looking indicator for 3-6-months). The index really has very little impact on the markets as most of the indicators that comprise the number had been previously released. Rising unemployment and tight credit mean that the recent gains in consumer spending, the biggest part of the US economy (+70%), cannot be sustained. This is further evidence that this sharp contraction will remain with us for most of this year, thus putting Obama’s time line under pressure.

The USD$ currently is weaker against the EUR +0.11%, GBP +0.03%, CHF +0.00% and higher against JPY -0.19%. The commodity currencies are mixed this morning, CAD -0.02% and AUD +0.79%. The loonie has continued this week where it left off on Friday, under pressure. The currency fell to its lowest level in more than a week as investors coveted the safety of the greenback ahead of corporate earnings this week that is expected to highlight the severity of this slowdown. With risk aversion strategies the order of the day, investors are shying away from commodity based and cyclical currencies. It did not help that oil plummeted the most in nearly 2-months. The market has been transfixed on today’s anticipated BOC announcement. Already there has been a rumor of a Medley report revealing that the BOC will slash 25bp and initiate quantitative easing measures. Markets remain thin and volatile and somewhat at the mercy of commodities and equities ahead of the BOC 9am EST release. Carney is due to announce guidelines on April 23rd about quantitative easing (Cbanks buy government debt to try to revive economic growth). Expect traders to be better buyers of USD on pull backs once again.

The AUD has managed to rally from its 3-month lows that were printed yesterday after BoA plummeted 24% when it increased it bad loan provisions significantly. RBA governor Stevens gave the currency a boost this morning when he stated that the Australian economy is in a good position to rebound from its 1st-recession in 18-years because the ‘financial system is strong and companies will benefit from a pickup in China’. However, that been said, investors risk appetite remains fragile and the market seems to realize that the recent recovery may have been excessive, hence the aggressive pull back so far this week. But, with European policy makers unable to come to a consensus may heighten recession fears again. For now, look for traders to continue to sell on upticks (0.7024).

Crude is lower in the O/N session ($45.88 down -1c). Finally fundamentals are starting to kick in. Yesterday, oil pared the most in nearly 2-months on the back of a stronger greenback which reduced the appeal of commodities and on speculation that supplies will rise as the recession reduces demand. 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. More importantly, demand destruction remains an issue with total daily demand averaging +187m barrels over the past 4-weeks, that’s down – 5.2%, y/y. Gas inventories declined -944k barrels to +216.5m, while distillate fuels (includes heating oil and diesel), fell -1.17m barrels to +139.6m. US Refineries are operating at +80.4% of capacity, down -1.5%, w/w, and the lowest level in 7-months. The fundamental data is abysmal. OPEC for an 8th-consecutative month cut its forecast for oil demand this year; 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 rallied +2% yesterday as the safe-haven demand related to renewed credit worries more than offset investment interest in ETF’s. With inflation a non-issue and the threat of the IMF needing to offload 3500+ tons of the yellow metal, the market had being selling on upticks ($889).

The Nikkei closed 8,711 down -213. The DAX index in Europe was at 4,530 up +44; the FTSE (UK) currently is 4,005 up +15. The 10-year Treasury’s eased 6bp yesterday (2.84%) and is little changed in the O/N session. FI has managed to reverse all of last week’s losses as global equities remain in the red. The rally was further enhanced as the Fed prepares to buy US debt twice this week. 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