It has been a relatively quiet session in the foreign exchange market. The euro has been largely confined to a 20-tick range on both sides of the $1.30 level. However, even this seems impressive, given that nearly all the major houses now anticipate the ECB to deliver a 25 bp cut to the refi rate next week.
Due to the widespread use of industry benchmarks by asset managers, the large rally in peripheral European bonds may trigger a self-reinforcing process by which those who moved to the sidelines given the recent events in Cyprus and Italian's political morass, are now being forced to chase the market or risk under-performing benchmarks.
Among equity markets, so far here in April, the best performance among the high income countries has been Japan. Foreign investors bought a record amount of Japanese equities last week, according to the weekly MOF report. In the year through April 12, the most recent data, foreign investors bought $64.5 bln of Japanese equities, more than double the amount in the same year ago period. However, after the Nikkei, Italy and Spain's equities have been the best performers, rising nearly 8% and 6% respectively.
At the same time, the data stream has taken a turn for the worse in the US, illustrated by the recent string of regional Fed surveys, the Markit PMI and illustrated by today's durable goods orders, which fell the most in seven months. The spring swoon appears to be repeating itself.
This divergence is likely to be good for the euro. A refi rate cut next week is unlikely to impact market rates very much and may be best understood as the ECB sanctioning what the market has already done. We suspect the euro can recover back toward the $1.3100-30 area in the next few sessions, and possibly $1.3200.
To the extent that weaker US data may weigh on the greenback, it may also produce under-performance of the Canadian dollar. Technically, it looks like the euro can retest the recent high near CAD1.35. It is currently about 1% below there (~CAD1.3370). Consider putting stops below CAD1.3320.
Just like it may seem counter-intuitive to buy the euro in the face of rising expectations of a rate cut, the same logic applies to the Australian dollar. Since April 11, the Australian dollar has fallen from near $1.06 to a low almost $1.0220 yesterday. We think the risk-reward playing from the long-side anticipating a near-term recovery toward $1.0350 and possible $1.0450 over the slightly longer term.
The gross longs in the IMM futures have been culled by 30% over the past three weeks through April 16 -- the most recent CFTC data. However, since then open interest has fallen alongside prices, suggesting that when the new data is reported on Friday (for the week through April 23), most longs liquidated, thinning the ranks of the weak longs.