Forex: Markets settling on hope

There are two hopes that are underpinning markets right now. The first is that we are on a home straight on the US debt ceiling negotiations, with a new bi-partisan deal on the table. The second is that EU leaders, at their summit tomorrow, will start to pull together to ensure a credible second bail-out for Greece. It’s not an easy feeling though, which partly explains why institutional cash holdings are so high at present; there’s just too much uncertainty out there, much of it caused by politicians. That said, we’ve seen some return of risk appetite in the past 24 hours, the CHF losing some ground (albeit from still lofty levels) and the Aussie regaining some of its resolve. For now though, the euro is unable to show its usual resilience, with too much hanging on tomorrow’s summit.

Commentary

Positive signs in US debt discussions. The major political parties in Washington are still very much absorbed in negotiations concerning both the lifting of the USD14.3trln debt ceiling and enacting a long- term plan to deal with America’s fiscal obesity. Most promising is the plan presented by a bipartisan group of five senators who have tabled a ‘grand bargain’, shorthand for a substantive medium-term fiscal plan of the type that the President favours. This aims to cut the deficit by USD 4trln over the next ten years, with USD 1trln of tax increases included. The underlying assumption of both the currency and the treasury market is still that Washington will enact a meaningful extension of the debt limit before the August 2nd deadline. This still appears a reasonable assumption, notwithstanding the fact that it is fast approaching midnight. For instance, the 10yr treasury yield is currently below 3%, whereas three months ago it was close to 3.5%. Should Washington manage to raise the debt ceiling in a meaningful way before early August, even with strong conditionality, then this could be positively received by both the dollar and the treasury market.


Strong German data no longer cause for celebration. The latest ZEW data for Germany showed the current situation remaining near the historical highs, rising from 87.6 last month to 90.6 in July. This was offset partially by the decline in the economic sentiment balance, from -9.0 to -15.1. It used to be the case that strong German data was taken as a sign of strength for the eurozone as a whole. Now though, with the economic fortunes across the euro area so diverse, strong data from Germany simply reaffirms these differences and also strengthens the political division, with Germans less keen to cede their fortunes to the rest of the eurozone. Nevertheless, in the ever evolving roundabout of eurozone policy-making, this may yet happen. The issue of common-bonds appears to be returning. Not surprisingly, it is more the peripheral nations that are holding them up as part of the solution, although so far the likes of Germany have firmly rejected the idea. Still, greater fiscal union (and, to a degree, political union as well) remains one of the exit routes from the current crisis, the alternative being some sort of fracture of the single currency. As such, the fact that common bonds could be discussed should be welcomed, although it’s a shame that, once again, we are returning to something that was kicked into the long grass months ago. Furthermore, the effectiveness of this solution will have been diminished by the passing of time, the hole from which the eurozone has to escape being ever deeper.


Aussie recovers despite dovish RBA minutes. For those attempting to profit from trading the Aussie recently, it has been an incredibly fraught and frustrating experience. Indeed, as we have been suggesting for a while now, it could be contended that the best strategy for traders to adopt is a more opportunistic one, where the time horizon for trades is much shorter and stops are much tighter than under normal circumstances. With the Aussie confined to a very narrow trading range of 1.04-1.10 for more than three months now, those traders who have sold near the top (of the range) and bought near the bottom will likely be the happiest. It turned out that the RBA Minutes were actually fairly dovish, with the bank observing that the global economy had slowed over recent months, the domestic consumer remained very cautious and the housing market remained soft. On monetary policy, the RBA believes that it has time to assess the degree of threat that inflation poses for the economy, and that the current mildly restrictive policy stance was still appropriate. More recently, overnight trade has seen the currency nudge towards the 1.0750 area, helped by the decent tone to Asian stock markets.

Looking Ahead

Wednesday: CN: Conf. Board Leading Indicator, July, GE: Producer Prices YoY (previous 6.1%, expect 5.5%), UK: Bank of England Minutes to July meeting, US: Existing Home Sales MoM, June (previous -3.8%, expect 2.9%).

Thursday: UK: Nationwide Consumer Confidence, July (previous 55, expect 49), EC: PMI Manufacturing advance, July (previous 52.0, expect 51.5), PMI Services advance, July (previous 53.7, expect 53.2), UK: Public Sector Net Cash Requirement, June (previous GBP 11.1bn, expect GBP 17.0bn), Retail Sales inc Auto Fuel MoM, June (previous -1.4%, expect 0.7%), US: Initial Claims (previous 405k, expect 410k), House Price Index MoM, May (previous 0.8%, expect 0.2%).

Friday: AU: Import Price Index QoQ, 2Q (previous 1.4%, expect -1.1%), GE: IFO Business Climate, July (previous 114.5, expect 113.6), EC: Industrial New Orders MoM, May (previous 0.8%, expect 0.8%)
Source: Bloomberg