Catching The Falling EUR Knife A Winning Strategy?

by: Dean Popplewell

Mostly a crowded trade and one currency – the yen against everything, have consumed the FX market. Today is another short day of euro-market moving data, and with no supply to be taken down, investors will be waiting for North American trading antics around their own retail sales and U.S. consumer sentiment for fundamental market guidance to maybe change their already pre-conceived convictions.

There is always a breaking point and at times a bridge too far and today best describes the EUR/JPY pull back or the vanilla yen rally. A healthy trade requires at times some breathing space and by booking profits for whatever reason – JGBs getting slammed, headlines on Cyprus asking for more money or Italy needing to raise +EUR60-billion in more funding – which instigates an “orderly retreat” only proves worth in that overall trade. Even eurozone production this morning has not helped the 17 member single currency cause. Despite rising more strongly than expected in February (+0.4%), the headline print still failed to make back the ground lost in the prior month (-0.6%). The data highlight the same old story that the plight of the euro-industries continues to suffer from their region’s fiscal crisis, which eventually affects domestic demand – hence, the vicious circle of non-progress.

Euro-finance ministers are set for an informal meet and greet in Dublin, finishing tomorrow. Nothing is expected to be decided, but Cyprus "is sure to be" on the agenda with these informal discussions centering on the bailout – we all want to officially know if it's been touted as a success or not. Someone else is bound to want to discuss the euro banking-union – the one that is opposed by Germany. Finally, because the Irish are hosting, they expect an offering, perhaps a lengthening of their bailout loans along with Portugal’s?

Spain is not the only country where general conditions are beginning to turn sour. Slovenia and the Iberian Peninsula share a similar problem – it is another crisis stricken country going through a property bust. Housing prices in Ljubljana, the capital, are falling faster (-8.8%, y/y) than what Spain has currently been experiencing (-2.8%). This housing bust is loading domestic banks from either country with bad debts – also a new similar phenomena being witnessed by their Irish counterparts. So far, the accumulated bad loan total held by Slovenian banks is about +EUR7b or +20% of the country’s total GDP. The real problem is that most of these banks are state owned. The OECD is doing the appropriate PR work and saying that the country does not need a financial bailout just yet, however, it is to experience a “prolonged downturn and constrained access to financial markets.” Perhaps the Irish can clue the rest of the euro finance team on how to get ” more blood out of a stone.”

So close, but yet so far – the obvious and most frustrating trade at the moment is USD/JPY and the psychological 100-benchmark print. The yen’s final steps are proving more difficult than many had anticipated. Getting that exclusive push from local investors, backed by an aggressive Bank of Japan easing package, is proving a tad more unpredictable. The Japanese investor by the end of last week was a net seller of +JPY1.1-trillion of overseas bonds. They ended up buying +JPY6.3-billion of overseas equities and +JPY75-billion of short-term securities, resulting a net repatriation flow into Japan of +JPY1.06-trillion, up substantially from +JPY0.3-trillion the previous week. All of this runs counter to what the market has been speculating on – Japanese investors seeking foreign assets ahead of Governor Kuroda’s easing that is suppose to push JGB yields to new historical lows. Governor Kuroda and company have their work cut out in the short term!

For now, the market seems to have caught the falling EUR knife after Cyprus’ request has become a tad clearer. The country’s president is calling for extra assistance in the form of technical and structural aid and not an increase in bailout funds – this should allow market participants to fully focus on U.S. data. Analysts are projecting a -0.1% headline for U.S. retail sales, unchanged ex-autos, and +0.4% excluding autos and gas. For U.S. consumer sentiment, it’s expected to rise in April, similar to the November cycle peak. Confidence jumped in the second half of March due to better news on employment, record gains in the stock market, better news on housing, and negative news on the government waning.

However, a negative sales print will do little to dampen concerns of a U.S. spring slowdown. Expect this market to act more positive with a good confidence number – combine it with this week's better U.S. weekly claims print – if not, it’s back to a market that will be requiring more U.S. Treasuries and bunds for surety and extra shredding of the risk trade. The current market bias is to get long EURs on dips. Will it be the winning strategy?

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