The first of the year selling that has plagued the euro has been absent from the pound. Renewed concern about debt in the peripheral euro community members has caused that market to remain under pressure. This continues today as traders now worry about the intended issuance €33B new debt this week by Portugal, Italy and Spain. In the first week on 2011 the euro has quickly retreated against the pound, from the year opening high of .8645, to a low this morning of .8284. The size of such a move of the euro versus the pound in such a short time is unusual.
Certainly the future of the financial weaklings within the euro community remains uncertain. The results of Portugal's bond auction will be closely observed, and weak results may hasten their move to the bail out window. The market's fear is the run on the euro rescue package will have sufficiently depleted the funds, and should Spain need help, this may be beyond the means of the fund.
The plight of the overextended government spenders in the euro community makes the big headlines, but trouble with public debt is rarely isolated from the private sector. British banks may not be on the hook with an abundance of bad public euro debt, but during the last boom their bankers were aggressive lenders and the virus that causes debt default can easily spread to the private sector.
While the gain of the pound versus the euro might give the impression that the pound should be owned, maybe the pound strength is a selling opportunity. On Thursday we get a number of significant British reports, including the MPC Rate Statement and the announcement of the Official Bank Rate. We would expect a divergence of opinion amongst the policy committee since the economy is giving mixed signals.
Because the inflation rate has been running consistently above the Bank of England's target rate, some market experts are predicting a rate increase is possible in the future. The hope of higher rates may be giving the pound a boost, but we wonder if this is realistic. Today the Halifax HPI m/m index came in lower than expected, down 1.3%, less than the -0.3% expected and -0.2% in the previous period.
Further some of the austerity measure taken to reduce the deficit by the new Conservative government, are only now being implemented. The British economy has been less than robust, and higher taxes combined with reduced public sector expenditures are expected to be a drag on the economy going forward. PM Cameron acknowledged that the Bank of England's King has a difficult choice. It would seem prudent to get more data prior to making any big changes.
On Friday the pound rallied from a low of 154.05 to 1.5577. The open interest in futures only (not including options) went down over 6,000 contracts on Friday, and the OI down or a Friday rally day signifies short covering. According to the latest COT report both the large and the small specs had large short positions. Today's action, a poor report and then a rally probably means more short covering. Should this rally carry further ahead of the reports, we suggest trying the short side if the market moves above 1.5650. Stops should be a little above 1.58 with the tp, a return to the 1.54 area.
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Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
