Euphoria is Dead EURO is Buried

It’s getting confusing, what “big figure” is the market trading on now? The euphoria following last weeks EU plan has quickly faded and then some, underlying that event risks to the EUR remain high. Greece is quickly becoming the “New” Argentina of the North, a country after a few general elections early in the last decade, aid packages and debt restructuring decided to abandon its peg to the dollar. Papandreou is hoping to seek the populous opinion on his austerity measures early in the New Year.

Low European growth, mixed with a little speculation that the ECB will ease sooner rather than later will not be driving the EUR bus any time soon. The recent Greek developments will only weaken further the commitment of Greek officials to implement more fiscal austerity measures going forward. Everything so far remains contingent on the implementation of further reforms in Greece. The Euro house of cards just got its biggest push.

This is very much an event risk week with liquidity constraints. Yesterday’s early trading was dominated by the BoJ’s actions and global bourse’s paring some of last week’s misplaced Euro euphoria. By day’s end, Papandreou hugged the headlines by calling a national referendum. In the US, the Chicago regional PMI gave no one any reasons for concern or to alter any forecasts for today’s national ISM factory index. The headline index fell two points to 58.4 (lowest reading since May), but the ISM-weighted index fell by just one point to 59.4. The decline in the weighted offset some but not all the earlier strength in the regional Fed surveys. In translation, the US economy expanded at a slower pace last month, while at the same time revealing low inflation and an improvement in the employment sector. This month marked the twenty-fifth consecutive month that the business barometer showed expansion. At least it’s something positive to hug onto!

After Papandreou and certainly causing much of the damage in the O/N session, was China’s underperforming PMI. It fell -0.8 to 50.4 in October, much weaker than the consensus forecast for a rise to 51.8. Digging deeper, new orders were down to 50.5 from 51.3 in September and new export orders dropped to 48.6 from 50.9 in October. The PMI suggests the Chinese economy is still slowing, although analysts note that the PMI’s correlation with IP growth has been rather weak. The market is beginning to predict that the PBoC may be required to ease policy and that the government may introduce some new fiscal stimulus by year-end.

The dollar is higher against the EUR -1.00%, GBP -0.65%, CHF -1.32% and lower against JPY +0.08%. The commodity currencies are weaker this morning, CAD -0.97% and the AUD -1.58%.

The loonie is still caught in the crossfire’s of international proceedings and will be very much at the mercy of the outcome of this week’s events. The CAD, like other growth sensitive currencies, is trading under pressure as concerns that European leaders will struggle to rein in the region’s debt crisis has eroded risk appetite. Last month, the currency rallied +5.4% outright, however, the BoJ’s intervening actions will be able to rock the currency’s recent climb some more.

With global sentiment again turning negative, coupled with the stress in the European banking system, will eventually pressurize the long CAD positions and apply a firm cap on the four week rally. The loonie briefly pared losses intraday yesterday after Canada reported that the economy expanded in August for a third straight month (+0.3% vs. +0.4%). The loonie remains vulnerable to what happens in the US. Carney’s comments last week are very transparent. He is concerned about sustainable growth and the market will have to be cautious in trying to push the currency higher at speed. Corporate buyers remain below as dealers focus on the risk reward of owning the loonie at these levels (1.0094)

It’s not a shocker that the RBA cut rates (-25bp to +4.50%) and has moved to a more neutral policy stance. In Governor Stevens following communiqué, the RBA concluded that a more neutral monetary policy stance would be appropriate to maintain growth now that inflation is likely to stay within its 2-3% target over the next two years. The RBA noted that while financial conditions have eased, overall conditions remain tighter than normal and the AUD is still at historically high levels.

The market is now estimating and pricing a neutral policy rate at around +4.0-4.5% and that the RBA is likely to cut by another-25bp in Q1 of next year. Futures dealers have priced in a market easing of about-88bp in total along the curve throughout this cycle. Currently that looks a tad rich, but hindsight is another matter. These cuts are likely to constrain and cap the Aussie. However, on the flip-side, better than expected data out of the US coupled with resilient growth from the Chinese economy will be supporting antipodean currencies. In this current environment, the market remains a better seller of the currency on rallies (1.0351).

Crude is lower in the O/N session ($91.45 down-1.74c). Oil prices dropped as the dollar climbs and global bourses fall, paring the biggest monthly gain in more than two-years. When the BoJ intervened and bid up the dollar happened to make commodities, priced in dollars, less attractive. Equities on the other hand worry that European leaders will struggle to raise funds to contain the region’s debt crisis. Both these asset classes have been the primary driver behind the commodity whipped lashed trading ranges.

Last week’s EIA report showed that 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.

Japan intervened for the third time this year and pledged to keep selling the yen. Finance Minister Azumi said the move was carried out to combat ‘one-sided speculative moves that don’t reflect the economic fundamentals of our economy’. In the short term this is good enough reason for oil prices to remain capped.

Gold prices eased yesterday, but not at the same pace of its commodity cousins. In an illiquid market, after Japan intervened to weaken its currency, has sent the greenback higher and other risk assets plummeting. The MoF and BoJ actions have just extended the recent “phase of consolidation” from last week’s short-covering surge that lifted the price to its highest level in more than a month. In relative terms, the commodity has traded rather tamely since Septembers purge mainly for margin cash requirements.

Initially last week, a deal by the Euro leaders to tackle the euro zone debt crisis and a positive reading on US growth, happened to encourage investors to delve back into riskier assets and to boost their bullion holdings. Investors have also been using the commodity as a safe-haven alternative to equities or FX. A percentage seems to want to insulate themselves from steeper price falls. The bullion is in its eleventh-year of a bull market and is up +19% this year.

Bigger picture, the commodity has also found support on concern that US monetary policy aimed at shoring up growth will eventually spur inflation. The FOMC two day meeting begins later today. 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 these pullbacks ($1,712 down-$12.80).

The Nikkei closed at 8,835 down-153. The DAX index in Europe was at 5,903 down-237; the FTSE (UK) currently is 5,409 down-135. The early call for the open of key US indices is lower. The US 10-year eased-22bp yesterday (+2.20%) and is little changed in the O/N session.

On the penultimate day, before rounding out one of the better months this year, treasury prices climbed, pushing longer dated security yields down the most in almost a month, as the BoJ intervened by selling yen to stem its rally and periphery bonds falling on concern that Europe will be unable to curb its sovereign debt crisis.

Dealers are front running the theory that with Japan intervening, because of an overvalued domestic currency, will be expected to translate into official buying in the Treasury market. Since the close of business last week, the middle of the curve has given up nearly-31bps. The market is concerned that contagion remains a question in Europe, requiring a demand for safer-assets. This week is also a heavy laden event risk week with investors wishing to err on the side of caution.

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