Euro’s Anxiety Intensifies

Highlights
The US dollar strength before and after the payrolls report Friday continued through Monday, apart from a blip in early trading. The euro initially made gains, with EUR/USD up above $1.4080, as local elections in Greece gave the government a vote of confidence. The bounce didn’t last though and EUR/USD dropped down to as low as $1.3891 as the 2-year US-German spread continued to favor the dollar and as concerns grow about the effects of austerity measures on growth in the peripheral European countries. EU Economic and Monetary Affairs Commissioner Olli Rehn visits Dublin today to discuss Ireland’s fiscal policy.  The dollar also gained versus sterling but was down marginally versus the yen.  But the biggest mover of the day was the NZD. The New Zealand dollar came under pressure, down 0.6%, after sluggish house price figures and after a kiwifruit disease was discovered. EM currencies also lost ground vs the greenback. The KRW fell back amid speculation the authorities may attempt to manage the currency’s rise, while there were also losses for PHP, ZAR, ISK and RUB.

Asian stocks were buoyed by the US jobs numbers with the MSCI Asia Pacific up 0.3%, its sixth straight gain, though across the region things were pretty mixed. Japan’s Nikkei was the leading gainer, up 1.1%, driven by a 3% in oil and gas while utilities lagged down 0.03%. There were also gains in Shanghai, Korea, and Singapore.  European stocks were mostly down with the Euro Stoxx 600 down 0.1%.  Although Ireland’s shares prices were down 0.3%, mostly in line with other European stocks, financial shares were down nearly 8.7%, highlighting the protracted weakness in the banking sector. Meanwhile, UK stocks decline after the FTSE posted its best week in nine last week, led by a 1% loss in materials, though tech stocks were up by 0.7%.  Additionally, the Dax was mostly flat, down by 0.1% led by a 1.6% drop in utilities. 

The euro periphery remains under pressure, despite a euro-positive outcome to the first round of the Greek elections, as concerns about Ireland’s financial system continue to mount.  10-year Irish yields were up 1 bp while the 5y price of the CDS jumped 13% to 598, implying nearly a 40% chance of default.  At the same time, Portugal’s 10-year yield was up 2bp accompanied by a 13% increase in the price of the 5y CDS.  And though Greek yields are down 15bp that is from a low base following the positive election results, where the yields were down roughly 25bp so, overall, the yields are on the rise.  Meanwhile, German 10-year yields are down 1bp with the US 2-year Treasury flat and the 10-year up 1bp.

Currency Markets

The US election results are known and the likelihood of the extension of the 2001 and 2003 tax cuts is more likely.  The details of QEII are known.  The US reported a string of tier one economic data last week that was consistently better than expected, including upward revisions to back month private sector payrolls growth, producing through October a string of 4 consecutive monthly gains over more than 100k.  While not spectacular by any means, as the unemployment rate remains stubbornly high even though the labor force participation rate fell 0.2% to a new cyclical low and the lowest in a quarter of a century (64.5%), the job growth in this recovery is a bit faster than the past two jobless recoveries.  At the same time, the lifting of uncertainty in the US is allowing the developments in Europe to have a greater sway than they have in recent weeks.  The interest rates spreads and credit default swap prices had been rising, but the market’s focus was on the US.     Greece and Ireland are at the center of the new storm.   Greece has its own IMF/EU package, separate from the EFSF.  The recent developments in the EU point to increased risks of restructuring after 2013.  The success of the government in the weekend elections has seen some easing of pressure, but the 10-year yield is simply back into last Thursday’s range. (~11.22%).   Ireland also remains under pressure even though it does not need to return to the capital markets for several months.  The government’s announcement last week was not persuasive to investors.  The 6 bln euro in savings it seeks next year is twice the adjustment that it projected last year.  At the same time it cut its GDP forecast to 1.75% from 3.3% a year ago.    Many estimates suggest the cost of borrowing from the EFSF could be in excess of 8%.  This area seems to be key for the Irish 10-year yield, now near 7.75%.  The ECB is believed to have stepped up its purchases of Irish bonds in recent days.   The government’ has a 3-seat working majority in parliament that depends on a couple of independents and a few crossovers.  A key by-election will be held on Nov 25. 

German September industrial production fell 0.8% m/m, a partial correction from the 1.5% m/m increase in August.  This was well below the market consensus of 0.4.  In the light of the orders figure the production numbers are less disappointing, but the dip in orders is a sign that growth is slowing down. Indeed, production trends are coming off. It is also important to remember that the September IP number is the last Q3 data release before the GDP print is this Friday with growth forecasts ranging from 0.4-1.9% q/q.  In fact, BBK President Weber expects growth to average 0.5% for the next two quarters.  Additionally, the September seasonally adjusted trade surplus widened to €15.6 bln, from €12 bln with m/m exports increasing more-than-forecast to 3% from 1.5% in August.  Indeed, Germany continues to post robust CA surpluses.  However, this is a partly a reflection of the fact that companies choose to invest abroad rather than focus on domestic activities.  That said, Germany continues to rely on export strength, which overall may partly be a reflection of the euro weakness throughout the Greek crisis, coupled with strong growth of EMs, but what will the export growth look like when the current strength of the euro is reflected in the trade numbers.  According to the August low, the next Fib level of support is around 1.388 which if broken could lead to a drop down to the next level of 1.3635.  Further euro weakness is supported by the downside break of the 20d moving. On the day the losses are becoming a bit overextended so look for any pullback as a buying opportunity with a break of the 1.388 level a sign that euro weakness can continue. 

The New Zealand dollar opened the week on the back foot after announcing sluggish house price figures and as the government announced that a kiwifruit vine disease had been discovered, possibly hampering exports. Home sales rose 1.1% in October from a year ago, down from 2% growth in September. It was the slowest pace of growth in 11 months, according to the index compiled by Quotable Value, a government agency, and further cements the generally accepted view that any further increases from the Reserve Bank won’t come until well into next year.  Though, the kiwi’s performance this week will be largely determined by the data releases from China.   

Upcoming Economic Releases

There are no US data releases but a there are Fed speakers scheduled to speak.   Bullard (FOMC voter) speaks at 12:30 EST / 16:30 GMT followed by Fisher (FOMC non-voter) at 1:00 pm / 17:00 GMT and finally Warsh (FOMC voter) at 3:30 pm / 19:30 GMT.  At 8:15 EST / 12:15 GMT Canadian housing starts are expected to fall by 2% to 182k.