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The Greenback was dealt a blow by Fitch, the rating agency, as they changed their outlook on the US AAA long term rating to negative. Nevertheless, Dollar reaction has been strong, with long positioning moving to multi week highs. The Dollar could face a struggle from rumour that the Fed is about to embark on a fresh round of QE by buying mortgage backed securities.
The Italian treasury released a small positive for the global markets this morning by announcing good demand of their latest bond auction. With the Italian debt market being the most closely monitored amongst all of Europe, these comments brought some relief to the recent run of weakness in the single currency. The Euro is by no means out of the woods, but at least it is potentially the start of a period of Euro stability. This followed yesterday’s reports that the IMF is planning a €600bn package to help Italy and a credit deal for Spain could be in the pipeline. These rumours were played down by IMF Chief Christine Lagarde who stated that “the IMF can only make loans available when a government asks for them” and as yet, Italy hasn’t. The Euro has strengthened slightly off the back of this news though we are very far away from a long term resolution so any real gains for the single currency are unlikely in the short term.
Last week saw significant risk aversion played out as stock markets dropped dramatically where as this week looks a little firmer. Articles in the Italian media suggest that the International Monetary Fund (IMF) is preparing a €600 billion deal for Italy in the event of deterioration in the debt crisis- this could provide market support in the early part of the week. Further support may also come from reports in Germany that German Chancellor Merkel and French President Sarkozy are putting together a “Stability Pact” for euro countries similar to the Schengen agreement. Nevertheless, neither story has been confirmed so as usual the prospect for disappointment is high. The sell on risk on rallies environment is likely to persist for a while longer despite such reports.
Stock markets recovered overnight despite a huge drop in the Dow Jones, but markets remain nervous and rebound in risk assets could be brief. A disappointing bond auction yesterday in Germany was a reminder to everyone of seriousness of contagion across the Eurozone. The reason for concern is if the core is being hit then there is no safe haven in Europe any longer. However this may kick-start a reaction in German officials and realise that they need to act swiftly to provide solutions to the crisis.
Compare and contrast: the interest rate on the three month note issues by the Spanish yesterday was 5.11%, the interest rate on the US equivalent was 0.01%. Spanish borrowing costs jumped from last months auction partly because we are in-between governments and the incoming party is still unsure if it will be able to pass the necessary austerity measures to (hopefully) reassure the markets but also because Euro-zone sovereign debt markets are now completely dysfunctional. The Euro, after a bit of a rebound yesterday, has opened today on the back foot because of the Spanish problems yesterday and also due to a story overnight about the potential renegotiation of the bail-out of Dexia Bank. Chinese PMI was also lower than consensus estimates and risk sentiment, which has been falling over the past week, will be further reduced and that means USD strength, Euro and GBP weakness and stock markets continuing to fall.
The Greenback continues to benefit from a growing ‘risk off’ attitude developing in the markets. Furthermore, the recent improvement in US data, including October’s existing home sales yesterday reduced pressure on the Fed for additional QE, which in turn supported the Dollar. We have an opportunity to see the Fed’s latest view on this subject during the FOMC minutes later this week, with the Fed set to keep the option open. Despite the lack of union within the US Super committee to slash the US budget deficit by $1.2 trillion, this has not hurt the Greenback’s improvement as these talks were always expected to be difficult. Further Dollar gains are possible but the speed of its upside move could slow. Read the rest of this entry »
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