View: Draghi’s comments should draw EUR/USD back to selling levels, m/t trend bearish
Reading some amusing comments reacting to Draghi yesterday, the best so far being ‘there won’t be a Euro short left once the ECB has finished’ (to paraphrase) which we’ll have to put down to heatstroke. Fundamentally the best adjustment mechanism to help peripheral realignment is a weaker currency. The other ideas such as the confidence the economies will receive from effective fiscal consolidation and the structural reforms that sit alongside this prescription sound nice but are rather ineffective in the shorter-term and overlook the recessionary pressures that are resulting from them, most evident in the Greek death spiral. ECB medicine is likely to be equally ineffective as we know that the central bank itself is one of the key proponents of the austerity model and German opposition to bond buying will continue to obstruct. We don’t think another LTRO would be a game changer or for that matter another rate cut, already justified by the inflation outlook. Perhaps the aim is just to buy time over the summer. Furthermore the kind of firepower needed to really rebuild confidence will continue to lag what is needed, evident in the sums the EFSF has and ESM has to work with.
Full report below…
View: EUR/USD1.1877 the key draw, discipline is to keep selling rallies
Euro price action has been a little flat over the past few days, failing to find momentum following the breach of the 1.2288 support level last week which marked the low point of early June. This has been despite generally negative news flow out of the region too, specifically the issues surrounding the Spanish bank bailout which is covered off rather well here (http://bit.ly/Ngd8Zq) and new round of self-defeating austerity announced by PM Rajoy this morning. This looks a little unusual in our eyes given that these developments create more questions than answers in terms of the banking bailout and further budget cuts/tax increase are likely to only deepen the Spanish recession and we know where that spiral goes. Furthermore there remain doubts about the ESM, currently caught up in the German Constitutional Court among other places, and the ECB’s tone continues to be standoffish, suggesting the crisis will continue to run with obviously negative implications for the EUR.
Full report below…
View: Negative Schatz yields to become the norm, equity correction a selling opportunity
There seem to be two scenarios currently; the first being that European ‘can kicking’ will continue, and despite things looking like they might totally implode at any moment, they will somehow manage not to for the visible future. Quite what this can kicking achieves of course is beyond us, it’s a bit like that drunk who knows that tomorrow is going to be a write off, so might as well plough on with those Jaeger bombs regardless. If we had to nail down the date of tomorrow in this context we’d say between the start of September and end of October 2013, the probable dates of the next German election and Octoberfest. The alternate is that can kicking is actually no such thing, it merely reflects policy paralysis and that the core/periphery divide is unbridgeable. The steps that appear after EU summits are vague and tied to such extended timelines directly due to this. The hard line taken by both Finland and the Dutch is telling, neither seem willing to compromise on the austerity driven solution despite the fact that we’re way past the point where this is really a valid crisis response. Signs of German compromise seem to have hardened their stance if anything. The ECB meanwhile refuses to act, believing that it is the responsibility of politicians, oblivious to the fact that consensus politics can’t achieve much with such disparate agendas. Some might say there is a third scenario where a workable strategy that allows the Eurozone to rebalance and grow slowly emerges, we’d just say good luck with that.
Full report below…
View: Banking/Fiscal union something for a smaller Eurozone, we dislike French debt
Global markets response to the Spanish bank bailout is interesting, it appears that investors have become a little more confident they can compartmentalise the situation while at the same time seeing the package as insufficient, which is most clearly visible in the diverging paths of equity markets and Spanish bonds. The poor performance of this market is clearly understandable given the structure of the package will be detrimental to existing SPGB holders, effectively creating a €100bn tier of debt that sits above them on the creditors list (assuming it is channelled through the ESM), something we know from Greece is never good. Furthermore the actual sums involved look unlikely to be sufficient, even the Spanish government acknowledges that there are still significant downside risks in the property market. New guestimates from JP Morgan have suggested the sector might need €350bn in total, ouch. It doesn’t look particularly good for some of the other creditors, Italy for example will have to fund its contribution in the markets at 6% while lending to Spain at 3%.
Full report below…
View: A Greek exit would be the perfect test case for the remaining PIIGS
The double whammy of the election of a French socialist President and anti-austerity parties sweeping out the incumbent coalition in the Greek parliamentary polls are both clear negatives, occurring at a time when the region’s real economy in already heading back to recession. While the implications of the French election are by no means insignificant, they are something that will take shape over a slightly longer timeframe. Furthermore there are still legislative elections to come on June 10/17 which means the division between campaign words and governing actions will remain somewhat elevated. So we’ll leave that at that for now and move to the faster moving situation back in the birthplace of the crisis, Greece, which has more direct market implications.
Full report below…
View: Euro$ strip to continue to steepen, U2/U3 spread could double
While the shift in tone of the March FOMC statement may have been subtle the markets reaction has been fairly pronounced with yields shifting up across the curve. The adjustment is not too surprising, in fact it’s what we have been saying for many weeks, namely that the US economy is improving, led by the labour market, which the Fed is slowly starting to acknowledge. There was also some understated acceptance that there were fewer risks emanating from the external environment although these still posed ‘significant downside risks’, a tone that is overkill in our view. Of course the 2014 language remains and the programme to reinvest maturing paper into the longer-end of the curve continues, with just one dissenter in the form of Lacker.
Full report attached……
View: Fed’s stance a short-term headache for USD, impact on risk assets more prolonged
I started to write this note on Sunday which is a lesson as to why one should finish things at the time and not let them slide down the pile. At least with the FOMC now out of the way we can add some additional colour on how the DXY is trading and the implications this should have for markets overall both in the near-term and in the coming months. We identified the technical reversal signal seen in the dollar index in our weekly strategy, last weeks close leaving a nice bearish engulfing pattern on the chart which not only spanned the previous week’s trading but the one prior to that, adding some more force to this set up. Following the Fed last night we can add some further insight to this view and frame it more effectively in a macro context.
Full report attached below…..
- Weak $, many say risk on, I say self defense (ritholtz.com)
- Previewing Today’s Economic Events And FOMC Announcement (zerohedge.com)
View: Selling rallies to remain the play, low 1.30’s ideally
Nothing moves in a straight line as they say and this afternoon’s EUR/USD squeeze is a case in point. Some confidence from the ECB helped, with Draghi placing a positive spin on recent efforts by the central bank to prevent a credit crunch while reaffirming that a further 3-year LTRO would be held in February (we knew this but it shows the bank remains committed to QE providing liquidity). Markets also seemed cheered by his observation that there had been some signs of stabilisation on the economic front. This allowed traders to place more weight on successful Spanish and Italian auctions we saw earlier in the morning. An added kicker came from weaker US figures which hit screens as Draghi began – particularly retail sales for December (0.1% m/m vs. 0.3% median) – which helped pull the rug from specs that had bought into the idea that every US number would continue to surprise on the upside (relative outperformance of America does not mean a boom)………..
Full Report attached:
View: Sometimes the market is right; EUR/USD has plenty of downside
As per our European update from earlier in the week, which merely brought up to date our long-term bearish view of the single currency, the technical picture for the euro is as equally troubling. The market has been in a downtrend since October’s blip – built around expectations that a breakthrough at the month’s Eurozone summit would actually be a watershed moment for the debt crisis – and while positioning (based on the CTFC non-commercials) is currently very short it still looks like price levels are lagging. Indeed, spot is still 9 big figures above the 1.1875 lows EUR/USD traded after the Greek problem first reared its head back in the spring of 2010.
There are a number of theories as to why the Euro held up so well despite relentless bad news since the Greece requested aid, the first being that the major alternatives were not too great either (the least bad currency view) and the smaller alternatives were at stretched levels, AUD probably being the most notable example, or protected – which sums up the Asia situation and latterly the CHF. Mistakes also played a role, by this we mean the ECB’s tightening cycle that ran until July last year which contrasted so markedly with the Fed’s ultra-accommodative stance which culminated in its pledge to hold rates until mid-2013 and the ‘twist’ launched in September. There is a good correlation between EUR/USD and 2-year swap spreads which reflect this dynamic and have supported the decline. More recently the very factors that should actually be euro negative have created a bid for the currency with cash starved bank’s from the region selling overseas assets to repatriate cash, needs that are clear to see looking at the demand for the various ECB borrowing facilities such as the €489bn lent in the first offering of 3-year loans before Christmas. Such flows, which we’ll likely see more of (bank solvency issues won’t go away), are a good opportunity to sell of course.
Many of the fundamental influences have been weakening, aiding the current leg lower. ECB President Draghi’s reversal of Trichet’s mistakes was the starting point to this with further rate cuts likely over Q1 and perhaps beyond as the central bank tries to steady the blocks stumbling economy (highlighted by contracting PMI’s). More importantly the US economy looks to have found a firmer footing which should continue to pare expectations of QE3 there – in contrast to the ECB’s actions which look like QE in all but name. In fact, it seems likely that Fed tone will turn more neutral in Q1 thanks to improved growth and possibly begin to exhibit a more hawkish lilt as the year progresses, all while the ECB digs. This is where our ideas on a cyclical dollar upswing find traction. The US will hardly boom, but on a relative basis the differences should look rather pronounced, and with rate differentials between the euro and dollar turning positive the path of least resistance too will shift.
Volatility is likely to remain elevated however as European leaders continue efforts to resolve the crisis. It is of course possible that they might come up with a credible plan before things really fall apart. Elections in France this year mean Sarkozy will be desperate to get things sorted out and Merkel with Federal elections next autumn (2013) will also want to rid herself of this headache.
This is where the charts should prove enlightening, as they proved in Q4, offering insight into timing and confidence to run with the trend. As can be seen on the chart below the long-term movement is clearly downward for EUR/USD but ranges can be wide as seen during October’s squeeze. The current band probably tops out at the 50% Fib line at 1.3407, an area which has proven to be something of a pivot area too, 1.3770 at a stretch. Those that remember our Nov 9th note (http://bit.ly/zJCxxy) recommending short Euro have more breathing space than more recent entrants of course but while the market remains under this area EUR/USD should be traded from a short base, using rallies back to 1.3045 and 1.3200/30 in the first instance while leaning on the 50% fib line.
Looking at things shorter-term momentum still favours downside with the immediate draw being the 1.2570/1.2600 area where we might see accounts begin to cover some shorts, especially if news flow turns more neutral which it has shown a tendency to do for (short) periods. There are some signs of divergence on the daily technical indicators too, RSI for example, although not yet confirmed by price action. We also like the MACD but it isn’t offering a clear signal here which might also warrant more immediate caution too. Spec accounts will be looking at the 1.2930’s in the first instance for stops but for those with deeper pockets it’s a close above 1.3080 that should be watched. If the market can stretch back through here it would be a signal the immediate bearish bias has shifted and we’d begin to think we might get a chance to sell into those higher resistance levels.
This is the preferred strategy longer-term (3-months plus), working a book built around a core short, using volatility and periods of calm to cover shorts and sell out again at richer levels. Ultimately we’re still of the view that this is the early stages of a pronounced euro decline and with the US looking fundamentally stronger (in relative terms) the best way to play euro stresses should be via this cross. Ultimately the chart suggests a run towards the low 1.17’s is the objective, a sustained flip through here would open even lower targets sub 1.000.
Spot Ref: EUR/USD 1.2783
- Dollar vs. euro: Battle of currency chumps (money.cnn.com)
- Euro architect: ECB knew of tensions (cnn.com)
- ECB QE through the back door Euro 489 billion Sell Euro (greatlakesforex.wordpress.com)
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