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Past Week

Overall Risk Asset Rally Appears A Mere Technical Bounce No Fundamental Change

See the full version for chart and details

As noted last week, we anticipate a bounce up to no more than the 1140-1160 area until we get some new fundamental fuel to justify something more than the current test of current resistance levels. With the index currently at 117.51, that means a potential gain of about 3.84%. Enough room for day traders, the rest should plan new shorts when this move ends.

ECRI Leading Indicators Threaten Double Dip Recession

Consensus is that it’s too early to make any conclusions yet about the ECRI data, but there are reasons for concern. As noted by Rom Badilla here.

EU Sovereign Debt Crisis

Growing Reports of Spain Likely Seeking Aid: As noted last week in The Latest EU Debt Crisis: Now 3 Reports Spain Seeking Aid, there are growing reports from credible sources that Spain is arranging an aid package from the EU and IMF. Spain continues to deny the reports but circumstantial evidence suggests otherwise. Spain’s bond sale this week found demand, but at record high rates that suggest Spain may not be able to afford accessing bond markets. Yields demanded on its 10 year bonds are up to 4.67%, not far from the 5% red line level, and have been rising vertically towards that level, as shown in the chart below.

(hat tip to Dave White from his article here)

Rates on its 3 year bonds have doubled since April. Spain needs to sell between €16-25 bln of bonds in July, so it makes sense that Spain would at least have a contingency plan ready if yields are too high. The mere existence of the plan might even be enough to keep its yields down enough to avoid needing the aid. Maybe. We expect the plan to become official in the coming weeks, and it is as likely to spook markets as it is to sooth them.

Italy Avoids Trouble Thus Far. As noted this week in Why Italy Is Quietly Getting Through This Month’s Big Bond Sale, and Spain Isn’t, Italy has quietly been managing to sell about €25 bln of bonds this month at acceptable rates, but it is far from certain they can continue to do so, especially if continued bad news from EU debtors continues to scare markets

What to Watch for in the Coming Week

EU Debt Crisis

Other potential EU sovereign debt crises: Fellow blogger Dave White reminded me:

Romania recently got bailed out by the IMF ($20B). It is still troubled. Many others have CPD%’s (cumulative probability of default) of near 20% or higher. The Ukraine has a CPD% of 33.97% today — near Greece’s 49.36%. Bulgaria, Croatia, and Lithuania are in bad shape.

Bank Stress Tests: The Spanish government has been making a concerted effort to calm market fears over the weight of private sector debt. The Bank of Spain committed itself to publishing the results of bank stress tests, and that has lead to a similar commitment from the EU. This initially lifted confidence. However, the likelihood that some banks might have failed the test could backfire and feed risk aversion and the ongoing rally in gold.

Watch ongoing opposition to EU/IMF austerity and bailouts: The latest move in the ongoing policy debate surrounding the EU, this past week the UK’s Telegraph reported in 'The Euro Mutiny Begins' that 100 Italian economists warned that the austerity measures being contemplated will do more harm than good.

G8 and G20 Meetings In Canada

Key issues that could stir markets include:

Stimulus Versus Austerity Debate: Here too we could see this same division in policy approaches, with the US favoring maintaining stimulus efforts until a recovery is more firmly entrenched, and European leaders imposing austerity measures immediately.

Yuan Revaluation: Another potentially market moving issue could be comments about China’s currency policy.

FOMC meeting June 23

There is little chance that the central bank will change the benchmark lending rate now or in the near future; but alterations to extraordinary lending facilities and commentary could stir some volatility.

UK emergency budget

The first significant test of the new government will be to deliver on its promise to rapidly address the UK’s growing deficit and its concomitant risk to the UK’s AAA credit rating. The CBI has estimated that spending must drop by £70 bln to avoid a credit downgrade, though at a cost of stalling the nascent recovery and reducing growth by 1.75% by 2016. Depending on how the affects of the budget are interpreted, all major GBP pairs could make major moves.

Wildcards: Watch for updates on:

  • China’s economy cooling: Recent reports showing a 50% increase in exports suggest China growth remains robust, but official attempts to cool its housing market are being felt. Property transaction volume in China has declined 70% since mid-April and this should lead to deceleration in construction activities in coming months.
  • US pre-earnings and earnings reports: Looking out to next week, traders will see an increase in earnings-related news as several names come due with quarterly reports.

Trader Positioning Suggests End of the EURUSD Reaction Bounce

The CFTC’s Commitment of Traders figures for the week ending June 15th showed a 44% drop in net speculative short interest in the euro (from 111,945 contracts to 62,360 contracts), suggesting just how much of the EUR’s recent rally has been sheer short covering, not surprising given the lack of substantive improvement in the EUR’s fundamentals.

Given that the dollar is the euro’s primary counterpart, the rebalancing from the EUR’s extreme oversold positioning removes much of the EUR’s ability to rally on the smallest excuse, and again render it sensitive to the numerous potential sources of further weakness.

Economic Calendar Events: See the full version for details.

Disclosure: No Positions

Source: 7 Key Market Drivers for the Week Ahead: June 21 - 25, 2010