What’s EUR’s relative value?

Global PMI surveys remain firmly in expansionary territory, with evidence of out performance. The market all week had been looking for an excuse to own Cable, and finally this morning we get it. UK’s manufacturing PMI aggressively jumped four ticks to 62. The EUR bears have been given the run around over the last 24-hours with month-end requirements, fixes, geopolitical risk premium been priced out and a market record short. Euro-zone inflation data has heightened speculation that ECB rates would soon be increased, all this is counterbalancing Egypt’s political instability. Forget the noise and keep your eye on ‘relative value’. At 1.3800 the EUR looks toppy, at 1.3500 it has value. In between the market is second guessing themselves.

The US$ is mixed the O/N trading session. Currently, it is higher against 8 of the 16 most actively traded currencies in a ‘whippy’ O/N session.

Stronger US data surprisingly yesterday has added to the dollars woes. December consumer spending was double that of the previous month (+0.7%) and aggressively trumped all forecasts (+0.4%). Digging deeper, most of the spending gains was focused on goods, led by nondurables (+1.5%) and the discretionary spending category, durables (+0.7%) reversing the previous months decline (+0.4%). Even the service spending happened to advance (+0.4%) for a second consecutive month. Most of the rise in spending was due to higher volumes and analysts note that ‘a little more than half of the headline rise will flow through to GDP growth’.  It’s worth noting that real spending grew +0.4%, month over month. Income did not provide much of a surprise, growing at its forecasted pace of +0.4%. Digging deeper, private wages and salaries were up +0.3%, led by the services sector. Government transfers moderated, expanding +0.2%, with the unemployment insurance benefits down in three of the last four months. In real terms, disposable income grew a modest +0.1%. Finally, the Fed’s preferred inflation gauge, core-PCE deflator (spending ex-food and energy) was flat last month. It seems that little of the commodity shock is being passed through to consumer prices. The Fed’s long-term goal is for inflation of +1.6%-+2%. The lack of price pressures is allowing the helicopter Ben to maintain his current QE2 timetable.

Yesterday’s US PMI index accelerated at its fastest pace in 22-years (68.8 vs. 65.5), proof that the US economy seems to be building on its recent momentum. Orders (75.7), production (73.7) and employment (64.1) increased from a pickup in consumer purchases and stronger export markets from the emerging economies. The release supports other recent surveys, Empire and the Philly Fed. The strength of the data may be inflated by seasonal adjustments and a rebound in the auto sector, but the message remains upbeat.

The USD$ is lower against the EUR +0.51%, GBP +0.65%, CHF +0.01% and JPY +0.47%. The commodity currencies are mixed this morning, CAD -0.01% and AUD +0.02%. Canada’s November GDP print yesterday showed that the economy expanded (+0.4%), doubling the previous months gain. The strong details point to solid consumer spending and an appetite for commodities, partly offset by a decline in manufacturing. While the monthly gain was better than expected, it still leaves a weak quarter intact.  This months BOC’s forecast in its MPR expected +2.3% annualized growth for the fourth quarter. Consensus believes that it may be too optimistic even with a decent December monthly print. To achieve that target a relatively strong monthly GDP growth of about +0.5% would be required. While a stronger US economy will help Canadian industry in the near-term, the over valued Canadian dollar, waning government capital spending, a cooling housing market, and moderating retail sales will eventually combine to limit overall GDP growth this year. They are all stellar reasons for Carneys vocal concerns to be reiterated last weekend. He indicated that ‘persistent strength in the currency is a threat to economic expansion’. His views happened to push the currency to print three-month lows. Month end dollar requirements and weaker long CAD positions are pressurizing the loonie bulls. Investors are wary of the loonie weakening further and remain better buyers on pullbacks (0.9989).

AUD through parity is a surprise with a backdrop of a flood disaster, Chinese rate hikes and a toppy equity market. On top of this, last nights RBA rhetoric was dovish or hawkish, something with a twist, depending on what way you want to look at it. Governor Stevens left the overnight cash rate target at 4.75% and said that policy makers will ‘look through’ the near-term affect growth and prices of flooding across the nation’s east coast will have. Stevens stated that ‘flood reconstruction doesn’t pose much inflation risk and called the global economic outlook strong for this year. He went on to say that ‘net additional demand from rebuilding is unlikely to have a major affect on the medium-term outlook for inflation’. The RBA ‘expects that inflation over the year ahead will continue to be consistent with its 2% to 3% target range’. It’s difficult to sell AUD on the back of the statement as it removes any chance whatsoever of a rate cut. The market looks for better levels to own the currency as investors look towards the ‘carry trade’ (1.055).

Crude is lower in the O/N session ($91.84 -35c). Crude until this morning had been maintaining its upward trajectory as consumers and investors worried that Egyptian unrest could spill over into neighboring oil-producing countries in the region. Traders continue to buy dips on fears that things could escalate further in the Middle East and this despite an OPEC representative stating that they do not expect the Suez Canal to be affected. Again, temporarily at least, fear trumps the fundamentals. Last week’s EIA report showed that US inventories ballooned. Stocks climbed +4.84m barrels to +340.6m vs. expectations of a +1.2m barrels rise. Not to be out done, gas supplies increased +2.4m barrels, against expectations of a +2.1m. The only negative coming from distillate supplies (heating oil and diesel) decreasing-100k, less than the expected-300k. Refinery’s in puts averaged +14.1m barrels per day, which was-212k barrels below the previous week’s average as refineries operated at +81.8% capacities. Weekly imports averaged +9.4m barrels per day, up by +386k barrels. Over the last four-weeks, imports have averaged +8.9m barrels, +517k barrels per day above the same four-week period last year. Despite OPEC believing that supply and demand is ‘in balance’, the concern with Egypt will keep upward pressure on the commodity? The country is a significant oil producer and a rapidly growing natural-gas producer. It is also an important transit corridor for world oil markets with its proximity to the Suez Canal. According to analysts, approximately +6% of global daily oil production runs through the region. If longer term disruption continued, expect rerouting of supplies around the horn of Africa. Fundamentally, there is far more oil in storage, more fuel capacity and more idle oil wells to limit a stronger market rally in the medium term. However, the fear of a reduction of supply will always exaggerate the commodity’s price.

With the lack of further escalation of unrest in Egypt, the market is pricing out some of the risk premium, which is eroding the yellow metals safe-heaven appeal. For most of this month gold has suffered, down -6.1%, on lackluster physical buying as the commodities appeal deteriorated and on hedge fund liquidation triggering vulnerable support levels. Before tensions in the Middle East, investors had been shying away from the commodity and sough ‘price appreciation’ in equities. Fundamentally, the bulls are trapped in this month’s price action with the trend turning rather badly against them. Expect the weak longs to sell on these up ticks. Natural physical buying has been less than modest with the commodity off to its worst start in 14-years. Has the gold peaked or is simply a short-term correction? Gold prices have depreciated just over $100 from its December highs. With the Euro-zone being able to sell their bonds, there’s less of a flight to quality, which could cause this asset class to be staring at a sub $1,300 a once soon. The market remains a seller on rallies despite what’s happening in the Middle-East ($1,337 +$2.80).

The Nikkei closed at 10,274 up+37. The DAX index in Europe was at 7,125 up+48; the FTSE (UK) currently is 5,880 up+25. The early call for the open of key US indices is higher. The US 10-year backed up 5bp yesterday (3.40%) and is little changed in the O/N session. Stronger US consumer spending and income data provides proof that the US economy is supporting its strong momentum and pressurizing treasury prices despite the ongoing Fed’s buyback program. The market is also unwinding the flight-to-quality trade, as investors downgrade, temporarily at least, the risk coming from Egypt. US longer yields closed out yesterday, rising for a fifth consecutive month, solidifying its longest losing streak in 12-years. The Fed has pledged to keep rates at a record low and continue its asset buyback program, supporting speculation that any additional rise in yields will be gradual.

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