Currently viewing the tag: "Italy"
View: Bears should have much better levels to play from, 1.63% the key level for Bunds
Quite how far this risk on move can go is hard to say, much of the detail of the Draghi plan was leaked ahead of time but still there was a rush of new money into risk assets once the OMT was formally unveiled and this morning’s German constitutional court decision was equally unsurprising in its outcome, even the oversight the Court requested with regard to the level of German contributions to the ESM.
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: EUR problems to linger, volatility good for RV bond plays, US to outperform
It is interesting how people still feel the need to believe that the start of each year is a clean sheet, particularly markets. More relevant should perhaps be the level of the New Year’s Day hangover – now compounding those lingering from the past few years’ excesses – in trying to assess how this year will play out. It is rather unfortunate that the main story is still the most obvious by a country mile, Europe. It is far more fun to drum up a list of potential surprises, or in the post Taleb world ‘Black Swans’, which will catch markets by surprise. It still may be true with an increasingly stressed Iran (fate of regional ally Syria being a key factor here), a possible soft patch or not in China and the more important year-end risk emanating from the end of the trusty Mayan Calendar which any stockpile of guns and tinned tuna can’t save one from. But the real stresses will emanate from the Eurozone which despite all of those repeated breakthroughs remains in turmoil.
While to us it seems clear what the problem is – insolvency – governments and the EU itself still seem to believe that it is more a matter of rebuilding confidence, particularly that of fiscal sustainability. Unfortunately the debate on how to manage this has been one dimensional and Germanic in nature thus far forcing futile austerity packages upon everyone from Greece right up the ratings scale to France. This medicine might be fine for the usual business cycle recession. But this is not one. Scant attention has been paid to growth measures, key to stabilising debt ratios, with the structural reforms that might help raise productivity often being the first steps jettisoned by governments. Instead so called temporary tax hikes and quickly formulated spending cuts underpin fiscal consolidation, dampening demand and auguring in recession or maybe depression.
One only has to look towards debt trap Greece to see how such policy initiatives exacerbate the initial problems. Of course it’s fairly easy to criticise this example given that tax evasion seems to be more firmly embedded in Greek hearts than the Olympics (the fact that hosting an Olympiad often leaves one impoverished can’t be coincidence!) but the prescribed mix of aggressive fiscal measures and (in)voluntary debt restructuring which will still leave Greece with debt levels of 120% of GDP if (unachievable) targets are met is laughable. As one Greek government spokesman noted this morning, if the current bailout fails they will have to leave the euro. Greek depositors are clear on the risks having been voting with their feet to months in what is a slow motion bank run – and one that could quicken at any moment. We’d bet Merkozy et al. will view this latest comment as another negotiating tactic. Their own stance will of course be that leaving will condemn any country to a future back in the stone-age. We’ll come back to this specific subject in another note.
A bust Greece is the most immediate problem although that is by far the sole concern. Portugal looks to be following closely in Athenain steps while recent austerity measures in Spain and Italy will inevitably draw those economies into recession with France and its AAA rating not far behind. One additional risk we think is worth flagging is Hungary. In fact it could be the pick of EU members to be the first forced into something disorderly. The government in Budapest is developing an authoritarian tinge having already nationalised private pensions and is currently staging a soft coup to disgorge the NBH of its independence. The US has been vocal in its criticism, a band of journalists have been on hunger strike since early December complaining of censorship and Ministers appear hostile to IMF/EU conditions. The old problem of FX debt may yet turn toxic too with the forint nudging record lows vs. the EUR. Given that liabilities are largely held by foreign banks this creates room for a nasty surprise, a risk for Austrian institutions in particular. PLN/HUF longs could be a way to play this; Poland has its problems but, as round one of the financial crisis proved, is more resilient than most with a nice mix of competitiveness and domestic demand. We’d also be more optimistic on the zloty should risk appetite improve whereas Hungary’s problems should prove more lasting.
We’d bet Germany turns out to be more resilient than some expect; thanks in part to our view of a weaker Euro allowing the country’s export machine to grab further market share from its uncompetitive peers even if global growth as a whole slows. This trend should be helped along by both a more accommodative ECB, which is likely to continue to deny money printing while continuing to do so and cutting rates further. We also remain optimistic on the dollar, rate differentials helping what should be relative outperformance in economic terms too – a view the December ISM figures support, not to mention the Chicago and Milwaukee PMI figures already released – and of course its status as the world’s reserve currency looks a little safer.
Looking at the euro chart we’ve seen not an unsubstantial decline since those October highs perhaps but looking at the blocks fundamentals a much larger adjustment is still needed to help temper the recession/depression risks stalking club-Med. Selling rallies should remain the play based around a core short using swings in positioning to take the most out of declines. For now this pair has held the Jan 2011 lows (1.2870ish) and looks to have some room to test back towards and possibly through 1.3200 in the short-term as shorts are squeezed on New Year enthusiasm and technical break of the downtrend form those October peaks. But medium-term accounts should hold on through this and look to add if the opportunity to sell in the mid 1.30’s comes up. Resistance remains the 200-DMA. We’d expect to see EUR/USD sub 1.1500 at some point this year and a move towards parity is by no means an unreasonable target if you also buy into a cyclical dollar upswing.
Eurozone trials and tribulations should also keep volatility elevated in the bond markets creating more opportunities for the relative value accounts, although given how liquidity can evaporate as stresses pile up one might need to be rather nimble. Bunds will remain the region’s ultimate safe haven even if we see setbacks form time to time as the failed auction on November 23rd proved. But the real risk looks set to remain in France and Spain (which could flare up again) with Belgium, Austria close behind. We’d look to use any narrowing of spreads between these credits and bunds to look at wideners, depending of course on the immediate news flow. From past experience these markets are still slow to grasp both political and macro developments. The ECB may provide another source of movement. Italy is likely to see similar swings although given where yields are currently trading perhaps have less attractive credentials from a trading perspective. Greece of course is history although might end the year as a distressed debt play.
Good luck for 2012.
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View: ECB must step up to the plate to stabilise crisis
Prospects for technocrat governments in Italy and Greece seem to have created a glimmer of hope, a rather curios reaction given the multitude at problems facing the new leadership in these troubled periphery states. While the exit of Berlusconi certainly warrants feelings of euphoria – rarely do democracies have to suffer from such morally corrupt leadership for so long – the exit of Greece’s Papandreou doesn’t really shift the balance, after all he was something of a technocrat figure anyway. Replacing him with a slightly better qualified one won’t have a marked effect on the country’s long-term fate (death by debt trap). Similarly the problems facing Italy goes far beyond a delusional leader, politics is likely to remain fractured and the economy is already heading towards recession; further steps to tighten fiscal policy will merely reinforce these pressures and erode confidence á la Portugal and Greece. Italy is no Ireland.
Recent bond market price action confirms this. The overshoot in Italian yields last week may have been triggered by LCH Clearnet raising its margin requirements but the mild recovery since, aside from patches of short covering, has been a function of defensive and sometimes aggressive ECB buying rather than any vote of confidence in a new government and optimism the administration will be able to take meaningful reform measures. Real investors continue to vote with their feet, unwilling to give Italy the benefit of doubt, having already suffered ignominy in Greece where they are now being asked to take a ‘voluntary’ 50% haircut (which will no doubt rise at the next bailout) vs. a zero write down for official lenders. Such balance is unworkable longer-term in our view and certainly based on projections that leave Greece’s debt to GDP ratio at 120% after restructuring and the austerity programme.
Contagion to Germany’s AAA rated peers is equally noteworthy. France in particular is in the firing line with the quickly revoked ‘downgrade’ from S&P’s (we’re not quite sure what type of technical issue not only send out a downgrade but also writes the covering letter) seen by many as merely the shape of things to come. Looking at spreads to bunds France’s AAA charade has already gone, trading at 175bps over 10-year German paper (and that’s 15bps tighter this morning thanks to the ECB) still some 29bps wider than when we recommended selling France back on Nov 9th (http://wp.me/p1G1Fr-j3). While ECB activity will keep things volatile the path of least resistance is clear. Earlier victim Spain is also back in the firing line with penal levels of unemployment making austerity all the more difficult to enact and growth flat-lining even before the latest flare up. Elections later this month add a further mist to proceedings.
We’re inclined to pin the blame on this spread on the German’s. Not only do they remain rigorously committed to the one dimensional austerity driven solution, which simply can’t work in Greece and given the Italian economic trajectory is an equally dangerous endeavour there, but are also remain vehemently opposed to allowing the ECB to cushion the blow by becoming the lender of last resort. Such hostility to ECB money printing may have its roots in the hyperinflation of the Weimar Republic (and we all know where that led) but economic conditions are somewhat different in 2011 to the 1920’s and there is also ‘form’ as to how such monetisation might impact thanks to quantitative easing programme enacted in the US and UK. To suggest that by allowing the ECB a broader mandate could lead to a similar outcome is simply disingenuous. Of course the German’s still do not see it this way. Nor do they appear (or want) to understand the difficult in enacting round after round of aggressive austerity in the countries in the firing line. It’s always easier to prescribe than administer.
A good dose of pragmatism is needed, growth is vital to stabilise debt dynamics which appears to have been largely overlooked when conjuring up the bailout programmes. Austerity may have a similar impact on a multi-year (decade) timeframe and avoid the moral hazard element that is proving so hard to sell to core electorates, but it is unrealistic to think markets will be willing to move on with a solution that leaves the periphery in a quasi-depression –it will simply lead to more contagion. Nor do we believe countries affected will have pain thresholds high enough to tolerate such narrowly focused solutions. In fact the most likely consequence of technocrats administering German medicine is that it fractures whatever flimsy consensus remains, significantly increasing the chance of a disorderly end to euro membership for some states or even the death of the entire project.
With realistic compromises there is still room to put in place structures to end financing pressures, speed up structural reform and ease pain of austerity and therefore downside risks to growth (or recession!). Reforms need to be focused at a structural level rather than on immediate slash and burn budget consolidation. Measures including raising retirement ages, means testing entitlements and reducing red tape for business would all provide significant medium-term benefits. Tax reform should also feature heavily. A weaker euro also has a critical role to play in helping temper the pain of adjustment (see our note of November 9th http://wp.me/p1G1Fr-jd). Most importantly now though is the influence of the ECB. It is the only institution that has the resources to provide the necessary liquidity, enabling it to retake the initiative lost to markets. Despite its protestations this might actually already be happening, by being forced into aggressive purchases of Italian debt (which the new Monti government will at least ensure it continues to do) the ECB will find it increasingly difficult to sterilise its interventions. It had hoped it would be let off the hook as an enlarged EFSF came on line but plans to leverage this fund have unravelled as quickly as they were announced and the EUR1trn size muted is still insufficient. This leaves the ECB with little option but to reluctantly purchase debt of those struggling to fund in the market.
It would be ironic if Europe blindly walked into a solution having walked into so many traps eyes wide open.
Related articles
- To Save Europe They Had To Kill Democracy (businessinsider.com)
- Rise of the Technocrats (online.wsj.com)
View: EUR/USD to retest October lows sub 1.3200, mid-term potential lower still
The debt crisis has inflicted a heavy toll on the region’s economy with recession looking an inevitable side effect of sovereign woes as we move into 2012. Of course peripheral bond markets have been devastated but contagion into other asset classes has been more limited thus far. Indeed, although equities fell over the summer it was driven by concerns of a broader global slowdown rather than Eurozone worries specifically, underlined by October’s impressive equity bounce which was underpinned by an improvement in US data among other things.
Similarly the euro has traded much better than many anticipated in recent months. To an extent this has been driven by (now reversing) rate differentials and a far more accommodative approach from the Fed, including the rates pledge and ‘twist’, but longer-term ECB inaction looks more of a threat than an asset to the currency, endangering growth and exacerbating existing tensions in the block. EU efforts to recapitalise the banking sector should be a further headwind, the simplest way for banks to increase tier one ratios (EUR106bn demanded) being to reign in lending and further jeopardising growth. It is also worth stressing that the only efficient adjustment mechanism available to the Eurozone is a weaker FX rate. Club Med are crying out for just this and it also appears to be the support mechanism that makes the most sense politically, minimising the scale of fiscal transfers north to south and/or a lengthy period of deflation in the afflicted countries to restore competitiveness. Germany may be the regional heavyweight but the euro is more than simply a Deutsche mark proxy. We’ve heard a few explanations as to why we’ve seen a firmer euro that we’d otherwise expect, including regional banks selling non-euro assets and repatriating cash to cover bond losses. But fundamentally the case for a weaker euro is compelling in our eyes.
Timing is of course essential to avoid getting whipsawed by market volatility when expressing such views but we’d also argue so is patience, especially at the moment when there is something of a disconnect between prices and the macro picture. We also continue to lean heavily on the medium-term technical story which supports a bearish stance and has been further reinforced by the swift reversal from the ill termed ‘break through’ which was announced to much fanfare by Eurozone leaders on October 26th.
After some consolidation over the past week we’ve seen a further breakdown today which we see as a continuation wedge pattern, the first objective of this being a move to EUR/USD1.3486 from where the market should be able to aim for a retest of the October low at 1.3146. The real objective though is to crack the Nov 2010/Jan 2011 lows in the 1.2870/2970 zone from where we can begin to consider those longer-term targets sub 1.2000 which is where we think the end-game should really lead to. The ebb and flow of news from the Eurozone should continue to provide periods of volatility and we’d recommend using any short-term reprieve to add to short positions. The bears will remain in control while the market holds sub 1.3840/70.
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- Euro whiplash (ftalphaville.ft.com)
- Greeks pull savings from banks as crisis deepens (business.financialpost.com)
View: France next in the firing line. Stocks, EUR should also feel the pain
Berlusconi or no Berlusconi, Italy looks in dire straits. The immediate focus is on blowing out bond spreads as the remaining liquidity in BTP’s evaporates, sending 10-year yields jumping through the 7.0% level (the 4.75% Sep 2021 bond trading 7.23% as we type). Recent buying from the ECB has just provided investors with liquidity to exit rather than helping shore up confidence in the market. But even before these death throws the picture for Italy was bleak; confidence measures have been in free fall for months and the decline in the purchasing managers’ indices has signalled recession since the summer. Average growth of barely 0.6% since 2000 highlights the fragility of the situation; recessions having the potential to play havoc with finely balanced debt dynamics.
Whether the immediate crisis is one of solvency or confidence is academic now (although those in Berlin, Paris and Brussels still probably don’t see it that way). It looks increasingly probable that Italy will be frozen out of debt markets, certainly at levels that are needed to fulfil its financing needs without blowing a huge hole in the budget and in turn triggering greater pressure from core governments and markets to enact aggressive austerity. Such steps would exacerbate growth pressures of course and one only has to glance towards Greece and Portugal to see how this would eventually play out. The Treasury needs to rollover a further EUR37bn debt by year-end, which by the looks of it the ECB will find itself reluctantly on the hook for, and for 2012 rollovers alone are just shy of EUR307bn. It’s no wonder that the EFSF (ratified at EUR440bn, plans to leverage it to EUR1trn are not really workable without pledges of more capital from the core) already looks like a relic.
There had been hope that the removal of Berlusconi would provide some breathing space but politics is fractured in Italy meaning the prospect of a strong government emerging out of the turmoil is slim, especially given the usual core/ECB prescription of ever more demanding austerity measures in return for aid/support. The IMF – whose arrival looks imminent – would have similar demands. We struggle to see what could really stabilise the situation now, to us it looks as if Eurozone politicians have past the point of no return, Italy (and the world’s third largest bond market) was too big to fail and the consequences will be pronounced and lasting.
BTP’s are likely to remain untradeable as this all plays out, but there still looks to be good trading opportunities elsewhere, in particular in French sovereign paper, contagion leaving its treasured AAA rating ever more exposed and with it the creditworthiness of the whole bailout mechanism. While Sarkozy announced a raft of new budget measures totalling EUR65bn over five years on Monday to shore up confidence, which should pull the deficit back to the 3% of GDP Maastricht threshold by 2013. Given the perilous state of the French banking sector though (which has nearly EUR500bn exposure to Italy, BIS Q2 stats) pressures won’t abate. We still like spread wideners vs. bunds to capitalise on this noting that 12-months ago Italian spreads were not too dissimilar to where French spreads vs. Germany lie today. From current levels of 146bps a push towards 200bps (bunds steady and OAT’s continuing to retrace back to the March/April yield highs) is a reasonable first objective. There is clearly more room for a significant spike higher if the crisis continues to snowball than for conditions to normalise.
Outside of bonds European markets have sold off for the past two sessions but overall have been rather resilient to this crisis specifically; the rally we saw in the region’s stock indices throughout October the most notable peculiarity although euro strength is not that far behind. Indeed, just based on macro trends and the probability of recession in the region we continue to expect that stocks will trade at much lower levels, favouring our sell rallies call, and the single currency itself needs adjust back to a price that would fit more closely with a broader rebalancing, certainly sub EUR/USD1.20 and probably closer to parity.
Related articles
- ECB Issues Ultimatum To Italy, Threatens To Halt Bond Purchases (zerohedge.com)
- Italian Bond Yields Pass Key 7% Level (online.wsj.com)
- Goldman Sachs On Italy: “What’s Next” (zerohedge.com)
View: Greek debt burden not sustainable at 120% of GDP, growth more vital than ever
After much haggling and no doubt some bashing of heads behind closed doors Eurozone leaders have finally settled upon a ‘solution’ the debt crisis that has been plaguing markets for the past year or so, agreeing to increase the voluntary haircut (helping avoid one criteria for a credit event) on Greek debt from the paltry 21% agreed back in July to 50% while plans have also been approved to increase the notional size of the EFSF (gearing its EUR440bn to EUR1trn) and finally to recapitalise the banking sector.
Markets have responded positively to the apparent breakthrough (Eurostoxx 50 up 4.2% and the DAX +4.0% approaching lunch), but as ever the devil is in the detail. What grabs our attention immediately is the rather worrying statement that the Greek deal should bring the debt to GDP ratio down to 120% of GDP by the end of 2012. A staggering number based on a 50% write down for private bond holders and hardly a route to debt sustainability given the pressures the economy remains under. Some of the underpinnings of the deal appear particularly optimistic, such as a further EUR15bn increase in the already elevated EUR50bn the government will have to raise from its privatisation programme. It is easy to be cynical in these matters, nonetheless we don’t think the package can create the necessary conditions for growth which is vital to stabilise the terrible debt dynamics. It looks reasonable to expect further write downs if the official lenders are not willing to take a haircut on their commitments too. Private investors’ hands should at least be strengthened by this in a next round, even if in the first instance the cost is expensive.
As for the EFSF, expanding the facility was critical. By the looks of things the fund will effectively provide some form of insurance protection to bond holders although how this will actually fits together is vague, it looks like the technical details are still being worked on. On paper the increase looks to be enough but given the questions over the Greek element of the deal, it might not in six months’ time. Equally interesting is how Eurozone leaders broached the subject of bank recapitalisation. Rather than any official action the banks will have to raise capital themselves (EUR106bn in total) so that core tier 1 capital ratios reach 9% which ought to have interesting implications for credit going forward, details of which are here http://tinyurl.com/6gww5fl.
Overall its clear progress has been made but whether this marks a clear break with the past is uncertain. Fine details are largely absent as it typical for European summits and we’re not convinced the steps are aggressive enough to draw a line under the issue. There are plenty of risks, questions remain over Portuguese solvency and Italy is still in precarious territory due to its huge financing needs and political dynamics. From a market perspective we think a lot of this good news is priced in. Of course there is room for the euro and equities to rally in the first instance as some money had been taken off the table ahead of the summit. But we think as the plan is digested some caution will creep back in, investors likely to be wary of execution risk as ever. The reaction of Greek bond yields might be telling, the 10-year is still trading around 35c to the EUR which even we can work out is more than a 50% implied haircut. Selling into the EUR/USD rally looks a natural way to play it from our perspective. There still remains little room for shocks even with an enlarged EFSF. Growth trends across the block are worrying with recession risks elevated, without growth solvency issues can only creep back in.
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View: Raises EUR risks, long bunds still our favoured way of playing crisis
Although Germany suffered acutely during the financial crisis as global trade threatened to grind to a halt, the country has engineered a recovery has been one of the developed worlds’ most impressive. Indeed, the economy has grown in successive quarters since Q109, exiting recession six months earlier than the UK and a quarter ahead of Italy and the US, with average q/q growth of nearly 0.8%. Worryingly though the structure of German growth hasn’t really shifted, it’s an export led economy and consumer demand has been rather lethargic even with unemployment levels falling to post-unification lows.
This was underlined by the first reading of second quarter growth released this morning, q/q the economy expanded at a sluggish 0.1% vs. expectations of a 0.5% increase amid a weaker contribution from trade and soft consumption. Q1 growth was also revised down modestly. Data is already alluding to a further weakening of activity in Q3 with the PMI indices moving closer to the 50.0 neutral level having peaked at the turn of the year while economic expectations are also softening, underlined by the decline we’ve seen in the IFO index over the past few months. We’ve yet to see the full impact of recent eurozone stresses on these expectations too.
Growth is really critical for resolving the European debt crisis, if the rock solid Germany and France (where growth also disappointed, Q2 flat vs. 0.3% q/q expectation) are struggling the outlook for the remainder of the block is troubling. It really refocuses one’s mind on the fact that the European problem is one of solvency. The lack of confidence that markets have shown in Italian and Spanish debt recently is a function of this and the only solution is to address the unserviceable debt burdens of Greece, Portugal and Ireland. The expansion of the ECB’s Securities Market Programme, which led to purchases of some EUR22bn of Spanish and Italian paper during its first week of expanded operation, should be seen as a temporary fix. There remains a real risk that the central bank will find itself as the buyer of last resort as the sovereigns find themselves frozen out of primary markets.
From an FX perspective the EUR proved rather resilient during recent market volatility, but we’d argue this is unlikely to be typical. European turmoil was accompanied by the debt ceiling impasse in the US and resulting S&P’s rating downgrade which certainly tarnished the dollar. Moreover, the euro has been flattered by further dovish rhetoric from the Fed, in particular Bernanke’s pledge to keep rates at low levels through to mid-2013. But if global risk appetite is tested more meaningfully by the European situation in the months ahead, with negative Q3 GDP prints looking a risk in the three largest members, it’s difficult to envisage EUR resilience being so pronounced.
Our favourite way of playing the crisis though remains bunds. Their attraction clearly remains high judging by the price action of the past few days. As we have stated we think sub 2.00% bund yields are likely as the debt crisis comes to a head, or approximately 30bps of upside from current levels, and the poor GDP reading this morning reinforces this viewpoint.
Related articles
- Germany adds to eurozone crisis (cnn.com)
- Eurozone slowdown reignites recession fears (telegraph.co.uk)
The simple answer is some sort of systemic collapse of peripheral debt markets (including Italy and Spain) which doesn’t seem to be too far away given recent price action. Liquidity is virtually non-existent even before accounting for the usual thinning of markets during the summer and while EU officials seem to be aware that markets are troubled they still look committed to the line that recent developments in Spain and Italy are “clearly unwarranted” to quote EU Commission President Barroso, despite the oxymoronic admission of the “systematic nature of the crisis”. The fact that this flare up comes so soon after July’s summit, designed to put a stop to contagion once and for all, underlines the feebleness of EU institutions. No sooner had that meeting finished core Europe was stating that the Greek package was a “one off”, apparently oblivious to the fact that the rest of the PIIGS continue to float on the edge of the same abyss.
It is clear the Germans can’t square stumping up more cash with their electorate but at the same time they are unwilling to support any meaningful debt restructuring, fearful of what this might do to the local baking sector no doubt. Indeed, estimated private sector participation in the Greek package indicated haircuts of no more than 20% when 10-year bonds were trading at rates pointing to a 50% recovery rate. 2-year yields never fell below 25% and are now back at 30%+.
The winner in all this has been bunds, undoubtedly the safest European asset in the face of this turmoil and thanks to debate over the US’s AAA status perhaps the ultimate safe haven asset globally now. But it’s not just a flight to quality bid that underpins. Germany’s earlier robust export driven recovery also looks to be playing a part now, impacted by on-going weakness in club-Med, the aftermath of the Japanese earthquake and growth pressures in the US exacerbated by the recent debt ceiling clash. Add on Chinese efforts to cool inflation, Indian overheating and a fairly soft Brazil and the risks multiply for the export driven model.
Technicals have been working very effectively for bunds against this backdrop, while the EU summit triggered a shift to neutral mid-month, the run back through firstly 128.19/21 and then 129.36 both gave fresh signals to buy. Today’s reversal from the Oct ’10 highs shouldn’t prove to be a significant reversal point when looking back in a month or two’s time. There is room for a dip back into the mid 129.00’s intra-day perhaps but this won’t change the objective, a retest of the April ’10 top at 134.73/77 which in cash terms implies a yield of around 2.10%. To print sub 2.00% is the real draw for the cash market, we’d bet this comes before the Eurozone end-game too. Against this backdrop we maintain our preference for short EUR/USD too, though prefer EUR/JPY, JPY to remain a beneficiary of any prolonged risk unwind.
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