Chart of the Day: Relief Rally for Euro Fades

Equity markets have responded well to the EU’s new liquidity schemes.  But the single currency is tanking, after EUR shorts caused it to pop just after the announcement.

EURUSD 2010-05-10

What does this mean? Maybe the markets sense a large increase in money supply is coming.  Euro-weakness is not infecting European Emerging Markets as they were the biggest gainers on the day.

Marc Chandler writes:

Markets have staged a clear relief rally on the weekend EU/IMF plan.  However, spreads on bonds from the peripheral euro zone countries have not yet returned to normal, and suggests that investors still have serious doubts about Greece and the other weak euro zone credits.  Greek 2-year yields plunged 1269 bp Monday to 5.5%, and dragged the rest of the periphery along.  Portugal 2-year yield was down 336 bp, Ireland down 271 bp, Italy down 85 bp, and Spain down 104 bp.  Better levels, yes, but still around where they were in mid-April right before Greek bailout specifics were first announced.  Greek CDSs were trading near 540 bp, below the highs around 1000 bp last week but clearly still elevated.  In other words, the markets are still telling us that the aid package has not totally eliminated default risk.  However, we acknowledge that the panic has been removed for now.  Risk assets made a big comeback Monday on the EU/IMF plan, with EM currencies the biggest gainers vs. USD.  PLN, HUF, BRL, TRY, and MXN are the biggest winners on the day, and basically are a mirror image of the biggest losers for all of last week (PLN, HUF, BRL, RON, and MXN).  So we are seeing a snapback from the pessimism of last week, but losses have not been totally recouped.  PLN lost 8% vs. USD last week and up 4% Monday, HUF lost 7% last week and up 4% Monday, BRL lost 6% last week and up 3% Monday, and MXN lost 5% last week and up 3% Monday.  The euro was very heavy, and sold off steadily since setting a post-package high around 1.31 early Monday.  32% retracement from last Thursday’s low at 1.2878 was broken already, as was 50% level at 1.2811.  Next up is 62% level at 1.2745.  We believe most markets remain wary of the Greek story, and are awaiting more details about how the EUR500 bln European portion is going to be funded.  ECB’s Trichet said that the decision to buy government bonds was not unanimous, but stressed that the ECB remains “fiercely” independent.  Note that the amounts to be committed by the ECB for such purchases remain open-ended, unlike programs currently being run by the Fed, BOE, and BOJ that all have ceilings.  French and Italian central banks confirmed that they have already started buying government bonds under the new program.  No surprise, as French commercial banks are the largest holders of cross-border banking claims to Greece, estimated at $75 bln by the BIS and a full quarter of Greece’s total exposure.

The ECB have taken the nuclear option of buying up debt on the secondary market. The institution is now been politicized as the Fed before it when it started buying toxic assets at inflated prices. When a central banker uses the word "fiercely" to defend its independence, you have to think of Lady Macbeth; methinks the central banker doth protest too much.

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