This market has been looking for excuses in a week dominated by liquidity premium and a lack of economic fundamental depth to date. One does not need to look to far in this disjointed U.S. trading week for some concrete excuses; negativity is being exposed on a few fronts this morning. A couple of high profile Portuguese government defections since the weekend have been allowed to lean on the 17-member single currency. As too are the market concerns that Greece may not have the ability to meet the terms of its international bailout. Greece is a constant reminder to many of the recent negative euro flashbacks that are bad. Already investors have been on edge with concerns about China and the Fed tapering. Throw Europe again into the mix and the bad flashbacks become more than a nagging headache – they become a migraine!
Market liquidity remains a premium and becomes more of an issue as we head deeper into this NFP week. U.S. July 4th celebrations tomorrow will also be capable of causing market disruptions. The next few days are likely to be a key period for financial markets, with the ECB and BoE (Carney’s first meeting) on Thursday, and the all-important U.S. payrolls on Friday. The market is not underestimating the significance of the labor report. A strong number is expected (+190k), with an unemployment rate to improve a tad (+7.5%). No matter what, the headline release will not only provide a monthly or quarterly significance, but also will probably help to mold “the trading plan” for the remainder of this year. This week’s risk events are likely to occur in relatively thin markets – which would suggest substantial volatility.
Thus far, the USD offers the only real safety amid higher U.S. yields and higher eurozone yields, the latter fueled by risk aversion on bad news from the eurozone. A political crisis in Portugal that seems to be heading towards an early election has been enough to see significant pressure on their own domestic bonds and some of the other euro periphery yields. However, the dreaded illiquid factor is also helping to exacerbate some of the current price moves. Portugal is a huge headache for the ECB – the Outright Market Transactions cannot play a supportive role, as the sovereign has not yet met the conditions or criteria to trigger the OMT. The current price action will only make it more difficult for the small nation to gain favorable or equitable access to the debt markets going forward and thereby pressurizing Draghi and company to open up the OMT sluice to existing members. The ECB’s other problem is Germany – Merkel has an election to deal with in two months and this not a headache she wants to be dealing with when trying to get reelected.
Earlier the mighty buck managed to edge higher across the board, pushing in particular the yen through the psychological ¥100 barrier for the first time since last month. Traders have been appearing to be increasingly confident that Ben and the boys will move to slow the flow of monetary stimulus. With nothing on the economic boards to provide “true” direction, the depth of some of the currency moves indicates how important a number Friday’s non-farm payroll is shaping up to be. Dealers, traders, brokers and speculators will all be focused on the labor unemployment rate in particular. The yen has found some reprieve in the overnight session with the "mighty" dollar falling as part of the risk aversion heightened by the rising stress in the eurozone and in political fallout in Egypt, which is affecting oil prices in particular.
On a brighter note, BoE’s Carney seems to have the “Midas presence” and he has only been in office 72-hours. The U.K.’s economic recovery seems well in hand with this morning’s services sector notably expanding at the sharpest pace in over two years (56.9). This will certainly alleviate some of the "butterflies" Carney must be experiencing as he begins his first two-day MPC meeting starting today. The headline print seems to suggest that the U.K. economy is on course to expand in the region of +0.5% in Q2. With a suggested print like this, there will be little need for any BoE member to make a case for QE. The underlying details were strong across the board and the outlook is being supported by a healthy new order book. This is another good data point to add to the better than expected manufacturing index and the expanding U.K. constructing sector.
Not all data points are doom and gloom in the eurozone. Euro retail sales surged in May (+1%, m/m), which may thinly suggest that the euro consumer may be strong enough, via their purchase habits, to support the ailing and fragile 17-member union. The headline print was the strongest in five-months, mostly driven by food drink and tobacco. Sales were down on year-over-year basis by -0.1%. Even the April revision was also positive.
For the 17-member currency everything says sell the EUR – Greece to Cyprus, Slovenia to Spain and Italy and now Portugal. However, timing must be a concern for investors, especially with the liquidity premium and disjointed trading week in play. Event risk has to be at the top of most traders’ agendas with tomorrow’s ECB meet and Friday’s highly anticipated NFP report. The market should be wary of taking on a short position ahead of such events – remember that speculators got it all wrong on the Fed, paring their “massive dollar longs” just before the Fed uttered tapering. In a thin market, it’s probably more prudent to apply the “wait and see” approach. If things are truly beginning to unravel again in Europe and the debt crisis does erupt, there should be ample time to participate. To “wait and see” does not squeeze the weak!
The mighty dollar is expected to find some solace this morning. Although not as important as Friday’s labor market indicators, both the USD ADP and the employment component of ISM non-manufacturing will receive the bulk of stateside attention – the headline releases may have an influence in market expectations for payrolls, the adjustments may begin!