EURO premium to be priced out?

A reality or a warning? This morning’s verbal damage comes from the German Finance Minister. Wolfgang Schaeuble views have caused the EUR to trade lower, with profit taking selling beginning to shape a sharp pullback. He insists that that this weeks summit will not present the ‘final’ solution for the EUR debt crisis. It seems that the market will be getting the ‘key principles’ of a second bailout for Greece, but the technical details will not be for weeks later.

The market has been under the semi-illusion that the EU summit on Sunday, the key deadline of the week, would produce a comprehensive plan, including a broad bank recapitalization scheme with more expansive PSI provisions, improved governance and possibly a new set of targets for Greece. This is the reason risky assets rallied last week. How much of EUR premium will now be priced out?

Sketchy details of “the” rescue plan discussed in Paris this past weekend included a bigger write-down than previously expected of Greek debt, a much more powerful European bailout fund and a recapitalization of weaker banks to arm them against inevitable losses. Most neutral observers could have come up with that prediction! This week, predicting price movements will be similar to navigating oneself out of a mine field.

There are many risks heading into this coming weekend’s summit in Brussels and November’s 3-4 G20 Caan meeting, where politics may again get in the way of delivering an effective solution. The pressure coming from the G20 is immense, a plan is seen as an important step towards soothing concerns over the global growth outlook, without it, contagion fears become more of a reality. Investors can expect the market to be spooked by every comment from ‘any’ policy makers over the coming week. Big picture, this market has got itself long, but, is it wrong? Investors should expect price movements and volatility to remain heightened.

The dollar is lower against the EUR +0.15% and CHF +0.11% and higher against GBP -0.06% and JPY -0.22%. The commodity currencies are stronger this morning, CAD +0.45% and AUD +0.25%.

The perception of doing the right thing had all risk assets in demand Friday, and that includes the CAD. The growth and interest rate sensitive currency, who’s country is commodity rich, does well in times of risk appreciation. Speculation that European officials are making progress formulating a rescue plan for the region’s debt crisis has increased investors appetite for riskier assets. Last week, against its largest trading partner, the loonie rallied +3% aided by equities climbing and crude topping +$87 a barrel.

The CAD, like any risk or interest rate sensitive currency, remains vulnerable to following the broader trends, especially what is transpiring in Europe on the verbal front. The market is a good buyer of dollars on dips, with strong corporate interest ahead of parity (1.0083).

At the RBA’s last meeting they opened the door to interest rate cuts, but with qualifying conditions. The minutes of the meeting, due tomorrow, will give markets a better sense of the extent of the shift toward dovishness. The market does not expect the RBA to ease rate policy two day’s ahead of the Caan G20 Summit.

The currency has backed off somewhat from its earlier highs on the belief that this rally has come ‘too far too fast’. It’s only natural to take some profit off the table in a one directional trade ahead of some key releases. The EUR will experience a similar movement as the Brussels meeting comes closer and closer.

Aussie domestic data remains robust, and coupled with Chinese inflation being well contained, provide compelling ingredients to own this growth currency. However, investors need to understand that the RBA is still being heavily dependent on how the crisis in Europe affects global growth over the next month. An increase in risk and RBA interest rate cuts again will be off the table and visa versa. At current levels and similar to other growth and commodity sensitive currencies, the market’s bias prefers to be better sellers of the AUD on these rallies, until the panic flows have abated (1.0332).

Crude is higher in the O/N session ($88.07 up+$1.27c). Oil prices have rallied to a three-week high during this morning’s European session, all on the back of “progress”. European policy makers and officials are on a positive road to somewhere and that “somewhere” is expected to be revealed in full next weekend. Prices rose +3% on Friday, posting a second straight weekly gain also aided by a stronger-than-expected US retail sales print (+1.1%).

Last week’s EIA report showed crude stocks rallying +1.34m barrels to +337.6m. The market had been expecting a +300k average build. Crude imports rose +386k barrels per day to +9.05m. On the flip side, gas stocks fell by -4.13m to +209.6m, more than market projections for a-100k barrel fall. Average gasoline demand in the last four-week’s fell by -0.7%, y/y. Distillates (heating oil and diesel), fell by -2.93m barrels to +154m, compared with an average forecast for a-600k barrel draw. Refinery Utilization fell by -3.5% to +84.2% of capacity. Finally, stockpiles at the Cushing rose +532k barrels to +30.6m barrels.

Are we back to a market traveling “too far too fast”? Weaker growth predicted by the IMF, which points to lower oil demand, will have dealers thinking of shorting the market again. Expect investors to run into technical selling on some of these steeper rallies.

Gold rose on Friday, posting the biggest weekly gain in six weeks, as optimism about European plans to contain the region’s debt crisis and a dollar drop lifted the yellow metal with riskier assets in a broad rally. For this morning’s rally the same reasons apply. The roadmap for ‘stability and growth’ has investors willing to strap on risk, but for how long? Momentum remains on the metals side, as well as Chinese data showing that their inflation dipped, easing worries of further tightening by the PBoC.

After last months rout, investors remain very cautious about this trade. The metal rose +2.5% last week for a second weekly gain. Demand for ‘physical’ gold is again expected to support the market. Under normal conditions, the Indian festival season helps drive buying from the world’s biggest gold consumer. Retail gold demand traditionally gains pace from August.

The yellow metal has moved in line with other commodities and assets seen as higher risk, like equities, in recent weeks, despite moving in an inverse relationship with them earlier in the year as buyers sought the metal as a haven from risk. In fundamental terms, gold is trying to find a balance ‘between the two opposing forces’, a risk investment or a safe haven ($1,695 up+$12.20c).

The Nikkei closed at 8,879 up+131. The DAX index in Europe was at 6,065 up+98; the FTSE (UK) currently is 5,538 up+72. The early call for the open of key US indices is higher. The US 10-year backed up +3bp Friday (2.25%) and another +4bp this morning (+2.29%).

Treasuries are off to the worst monthly start this year, only a matter of weeks after completing the strongest quarter in three-years, as demand for riskier assets overtook demand for a refuge that was spurred by speculation the debt crisis was worsening and a stagnant US economy. Concerns are easing over Europe being unable to curb its debt crisis. Last Friday, US retail sales print (+1.1%) strongly beat the street, damping bets that the country will fall into a recession.

We had optimism over Europe and a better outlook in the US last week, will the market want to book some of that profit or ride the euphoria to the meetings in Brussels or summit in Caan?

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