With the markets completely focused on events in Europe, headlines continued to define FX trends. Risk currencies rallied as there is hope that this week’s EU meeting will bring some solid announcements. A large part of the shift in risk sentiment was due to the speculation that the IMF is considering a financial aid package for Italy. EURUSD was able to rally off the 1.3286 low to 1.3398 while USDJPY trade up to a high of 78.29. Asian regional indices are all trading higher with the Nikkei up 2.03% and Hang Seng up 1.38%. European yields contracted with big drops in Italian and Spanish government bonds. Overnight, comments from the rating agencies did take some of the steam out of the current rally. French news reported that S&P could change Frances outlook to ‘negative’ within the next 10 days. Moody’s investor’s services stated it was considering cutting debt ratings for 87 European banks due to the removal of government support. We are unconvinced by the recent risk rally and will be watching buying fade in equities and European yields rising as the first indicator of another leg down in EUR. Monday Italian auction yielded a high cost 7.30% and today’s Italian new 3yr, 9yr and 10y BTP auction will be criticized. On the side will be headlines from the Euro Group and ECOFIN meetings today and tomorrow as markets watch for anything credible.
News reports have indicated that France and Germany will push ahead with greater fiscal integration within member’s nations. Germany's Minister of Finance, Wolfgang Schaeuble, stated that tighter control of fiscal policies by Brussels could shore up the market's confidence in Europe and the single currencies. However, he reiterated Germany's strong stance against any discussion on Eurobonds or the ECB stepping in to be the lender of last resort. Reuters has reported that policymakers have been discussing ways of in acting fiscal integration other than starting prolonged and complex adjustments to the EU treaty. One strategy would be to change the Schengen treaty, which was signed by 7 countries alongside the EU treaty (then 5 nations were added). Another tactic would be a pure Franco-German agreement that could be joined by other nations as needed. The key aspect of these models would be a fiscal union where qualification and veto right to deal with unwarranted deficits or elevated debt levels would be provided to members. Clearly, the models suggested could have a high level of success and faster implementation. However, the new stronger agreement would significantly water down the role of the Maastricht treaty and it’s uncertain whether the underlying populations will allow Brussels to make fiscal decisions. In addition, it would clearly create a 2 tier system within the Eurozone. While details are more than hazy, it is hard to see what liability and potential risk each country is actually taking on. Currently nothing has been decided and execution risk remains in any idea put forward.
The last round of monetary data revealed that the European banking sector is facing serious strains. Euro-zone monetary base continues to rise, as ECB lending to commercial banks has reached 2010 peak levels. The ECB is providing some level of support through their SMP transitions, in the government secondary bond market, it has not gone far enough to cap borrowing cost down, and remove further worrying deterioration. ECB bought €8.581bn of peripheral markets bonds under SMP, a bit higher than the week before. There is considerable concern that European banks will be the first to melt down. We are very concerned that in the short term we are not seeing a strong enough protective approach by policy makers and would take rallies in EURUSD as opportunities to build short positions. Today will be critical test of market moods over Europe. Italy is scheduled to tap markets for roughly €8bn. Over the weekend, Bundesbank President Weidmann stated that he was optimistic that Italy could "cope with rates over 7% for a while" although we are less sure. With the Italian 2yr yields well above the 7.00% threshold and following Friday's weak auction of 6m bills and 2yr bonds, this will be a decisive test.
On Friday, there were a plethora of rumors and speculation that the SNB was going to raise the EURCHF 1.2000 floor to 1.2500. However, the expected innocent never came but EURCHF reacted in anticipation by rallying up to 1.2380. The SNB clearly used their price stability mandate to increase the floor and as signs of deflation continued to come through, the economic data there supports further adjustment. In addition, there have been comments by central bankers that suggest that a move is coming. Yesterday SNB Chairman Hildebrand stated that the CHF is ‘highly valued’ and expects the currency to weaken. This follows Vice Chairman Jordon earlier comment that the central bank is "prepared to take new measures, should economic prospects and deflationary risks make this necessary". Perhaps the better timing would be at the Dec 15th quarterly meeting and not a random Friday afternoon. We are still concerned that the weakness in Europe could test the SNB credibility to hold the floor. Therefore it’s unlikely that an adjustment is coming. As for trading we would buy the rumor, by looking as scaling into around the 1.2250 level.
News reports have indicated that France and Germany will push ahead with greater fiscal integration within member’s nations. Germany's Minister of Finance, Wolfgang Schaeuble, stated that tighter control of fiscal policies by Brussels could shore up the market's confidence in Europe and the single currencies. However, he reiterated Germany's strong stance against any discussion on Eurobonds or the ECB stepping in to be the lender of last resort. Reuters has reported that policymakers have been discussing ways of in acting fiscal integration other than starting prolonged and complex adjustments to the EU treaty. One strategy would be to change the Schengen treaty, which was signed by 7 countries alongside the EU treaty (then 5 nations were added). Another tactic would be a pure Franco-German agreement that could be joined by other nations as needed. The key aspect of these models would be a fiscal union where qualification and veto right to deal with unwarranted deficits or elevated debt levels would be provided to members. Clearly, the models suggested could have a high level of success and faster implementation. However, the new stronger agreement would significantly water down the role of the Maastricht treaty and it’s uncertain whether the underlying populations will allow Brussels to make fiscal decisions. In addition, it would clearly create a 2 tier system within the Eurozone. While details are more than hazy, it is hard to see what liability and potential risk each country is actually taking on. Currently nothing has been decided and execution risk remains in any idea put forward.
The last round of monetary data revealed that the European banking sector is facing serious strains. Euro-zone monetary base continues to rise, as ECB lending to commercial banks has reached 2010 peak levels. The ECB is providing some level of support through their SMP transitions, in the government secondary bond market, it has not gone far enough to cap borrowing cost down, and remove further worrying deterioration. ECB bought €8.581bn of peripheral markets bonds under SMP, a bit higher than the week before. There is considerable concern that European banks will be the first to melt down. We are very concerned that in the short term we are not seeing a strong enough protective approach by policy makers and would take rallies in EURUSD as opportunities to build short positions. Today will be critical test of market moods over Europe. Italy is scheduled to tap markets for roughly €8bn. Over the weekend, Bundesbank President Weidmann stated that he was optimistic that Italy could "cope with rates over 7% for a while" although we are less sure. With the Italian 2yr yields well above the 7.00% threshold and following Friday's weak auction of 6m bills and 2yr bonds, this will be a decisive test.
On Friday, there were a plethora of rumors and speculation that the SNB was going to raise the EURCHF 1.2000 floor to 1.2500. However, the expected innocent never came but EURCHF reacted in anticipation by rallying up to 1.2380. The SNB clearly used their price stability mandate to increase the floor and as signs of deflation continued to come through, the economic data there supports further adjustment. In addition, there have been comments by central bankers that suggest that a move is coming. Yesterday SNB Chairman Hildebrand stated that the CHF is ‘highly valued’ and expects the currency to weaken. This follows Vice Chairman Jordon earlier comment that the central bank is "prepared to take new measures, should economic prospects and deflationary risks make this necessary". Perhaps the better timing would be at the Dec 15th quarterly meeting and not a random Friday afternoon. We are still concerned that the weakness in Europe could test the SNB credibility to hold the floor. Therefore it’s unlikely that an adjustment is coming. As for trading we would buy the rumor, by looking as scaling into around the 1.2250 level.
By
Forex Trading Consultant
M.Zohaib Gadit
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