Look out below EURO

At the Euro-finance ministers meeting they sought to narrow differences on how investors share the cost of easing Europe’s biggest debt burden.They failed and now they have to ‘pay the piper’.

The market has taken them to task by dumping the EUR again. The underlying Euro-zone debt jitters is keeping pressure on the single currency with any rebonds thus far remaining shallow. It was probably a bit of a stretch to expect a Greek break through this week, the bears are not complaining. Is the session move overdone? Most likely, however the market seem adamant to want to test lower eyeing stops below the 1.43 support. After that, 1.40 is the target.

The US$ is stronger in the O/N trading session. Currently, it is higher against 14 of the 16 most actively traded currencies in a ‘volatile’ session.

US data beat all analysts’ expectations yesterday and gave the dollar a boost. It was not a surprise to see US Retail sales (-0.2%) fall last month for the first time in eleven-months as receipts at auto dealerships dropped sharply, but the decline was less than expected (-0.6%), and provided investors some optimism of a pickup in economic activity in the second half of the year.

It seems that the US consumer cannot be written off just yet despite the recovery going through a patchy period. This has to be music to Bernanke’s ears. The market continues to blame much of the recent weakness on energy prices and supply chain disruption from Japan. However, analysts continue to look for activity to pick up in the second half of the year as gas prices are expected to moderate and the situation in Japan improves, although sovereign debt problems in Europe will remain the wild card.

It funny to see the loudest Euro rhetoric yesterday came from the countries that are the most problematic to investors. The Spanish finance minister stating that there are other options besides restructuring (talking his book) while Belgium wants voluntary contribution from Greek creditors. The Euro-Greek ping pong continues!

Ex-autos, retail sales rose +0.3% after rising +0.5% in April. There was also a slowdown in wholesale prices, with core-PPI rising +0.2% last month after increasing +0.3% in April. It’s worth noting that consumer spending (2/3rd of US economic activity), grew at a +2.2% annual pace in the first-quarter.

The dollar is higher against the EUR -0.74%, GBP -0.43%, CHF -0.44% and JPY -0.26%. The commodity currencies are weaker this morning, CAD -0.26% and AUD -0.01%.

The loonie has rallied, despite been contained within its recent ranges, inspired by better than expected US data and global bourses in the black. The currency was able to print a two-week high yesterday after risk appetite increased and commodities rallied from their weekly lows. This week is quiet for Canadian data, so expect the currency to take its cue from risk appetite. When risk is on, the ‘loonie’ is coveted.

So far this month the loonie has been at the mercy of its largest trading partner, on speculation that a slow recovery down south is curtailing demand. On the crosses the currency has performed relatively well, boosted by last week’s employment numbers. The Canadian economy was able to add +22.3k new jobs and push the unemployment rate down to its lowest level in two-years (+7.4%).

Expect the Canadian dollar to be subjected to the pull of either risk or risk aversion trading strategies. Investors remain better buyers of Canadian dollars on US rallies (0.9690).

The AUD had been better bid for most of the O/N session after Governor Stevens said that policy makers will need to raise interest rates at some stage. He reiterated a bias to raise the policy rate in the medium term in a speech last night and acknowledged that the slightly restrictive monetary and fiscal policy are currently constraining the economy. He believes that inflation is more likely to rise than fall despite the gains in the currency that further hikes are required to curb price increases. The markets believes that another inflation print above the 2-3% target will have policy makers hiking rates as early as August.

Aussie yields are still the highest in the G10 and always look attractive. The expected mix of trade surpluses and rising capital inflows should provide support for the currency on these much deeper pullbacks for the time being (1.0666).

Crude is lower in the O/N session ($98.54 -0.78c). Oil prices are desperately trying to rebound from a three-week low on stronger US and Chinese data. Its attempt has been rather pitiful as prices continue to hover just above these levels. Gaines have been pared by the news that China has ordered lenders to set aside more cash as reserves after inflation accelerated to the fastest pace in almost three-years, this further tightening is expected to reduce their demand for commodities. They are the world’s largest energy user. With US consumers accounting for 70% of the economy a negative sales headline, despite been better than expected, should be dovish for energy prices.

Last week’s EIA report showed that oil inventories decreased by -4.8m barrels. At +369m barrels, crude oil inventories are above the upper limit of the average range for this time of year. On the flip side and negating the bullish headline, gas inventories increased by +2.2m barrels and are in the upper limit of the average range. Distillate fuel inventories increased by +0.8m barrels last week and are in the upper limit of the average range for this time of year. Refineries operated at +87.2% of their operable capacity.

Big picture, the market believes that the US has ample crude stocks, allowing WTI prices to remain in check, while the Brent market continues to price in lost production of preferred sweet crude from Libya. This morning the market expects another weekly drawdown on stocks.

Gold is trying hard to rebound after posting its biggest one-day loss in a month earlier this week on growing worries about another global economic downturn. Previously, investors sold the yellow metal to cover losses in other assert classes as margin calls increased. Last week, the metal dropped -0.9%, the first decline in five-weeks. Year-to-date, the commodity has climbed +7.6% this year.

The market expects gold to rally this week on the back of the dollar losing some of its bid momentum. Dollar weakness tends to lift gold prices, as it makes dollar-priced assets cheaper for other currency holders and boosts the precious metal’s appeal as an alternative investment.

Big picture, the yellow metal remains in demand on speculation that borrowing costs in the US will remain low after economic data signaled that the recovery may be faltering and on the back of Bernanke’s comments that further stimulus is required. However, the market may have to experience a good purge before climbing higher again.

Strong buying recommendations from Goldman and Morgan Stanley have also been good enough reason to drag the commodity higher. The yellow metal is being used as a store-of-value and trades like a currency.

The metals bull-run is far from over with speculators continuing to look to buy gold on deeper pullbacks ($1,519 -$4.50c).

The Nikkei closed at 9,574 up+27. The DAX index in Europe was at 7,168 down-36; the FTSE (UK) currently is 5,782 down-21. The early call for the open of key US indices is higher. The US 10-year backed up 7bp yesterday (3.08%) and is little changed in the O/N session.

Stronger global data has been able to push US yields to a two-week high. In the US, retail sales fell less than forecasted and PPI rose more than projected, while in China, retail sales and industrial output increased last month. Even some Fed rhetoric weighed on the prices. Dallas Fed Fisher stated that policy makers have ‘done enough’ on stimulus and should focus on price stability.

After last week’s aggressive advance and with global bourses in the black, has allowed investors to pare some of their risk aversion trading strategies and lock in some profit. Last week completed the longest winning stretch in the FI market in three-years.

Bernanke’s comments earlier this month continues to provide fodder for the bulls to want to own longer dated product. The reality, record monetary stimulus is still needed to support US economic recovery. It seems that market consensus has us believing that there’s going to be another dip in economic growth and that will require a QE3 package.

With the Fed expected to remain on hold for a considerable time is creating a new paradigm of longer term lower interest rates. Dealers are better buyers on these pull backs.

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