Thursday FX Brief: Hopes Grow for Lesser Impact on Growth From Sovereign Crisis

by: Interactive Brokers

Continued chatter about a return to stability is helping buoy the fortunes of the currency and equity markets. The main story driving activity On Thursday is the denial by China’s forex authority that it is not thinking about ditching euro-denominated investments after a Financial Times article suggested officials were meeting to discuss that prospect. Risk appetite is once again back on the table and pre-market U.S. equity futures are showing huge gains. Investors are looking at the 14% year-to-date slide in the euro and attempting to distinguish between the decent actual growth results around the globe and the prospect for slowdown due to fiscal austerity. What started off as a euro-driven decline for equities appears to be morphing into a stock-driven recovery for the single currency.

Euro – The State Administration for Foreign Exchange (Pending:SAFE) is China’s foreign exchange regulator and deploys the nation’s excess reserves. It denied through its website that it was reviewing its euro-area holdings saying, “Europe has been, and will be, one of the major markets for investing China’s exchange reserves.” Meanwhile an official at China Investment Corporation (CIC) noted to Xinhua News Agency a limited impact on its investment decision-making process as a result of European turmoil.

As the more positive tone pouring out of Asia and over Europe, the euro started to gain ground leaving behind a double-low near $1.2150 reached on Thursday last week and yesterday. It also gained against the Japanese yen rising to ¥110.81. Could it be that a relatively orderly, although admittedly substantial decline in the euro could be coming to an end?

U.S. dollar – Surging global stocks and a less-worrisome outlook today has dented dollar demand leading the dollar index an early 0.5% loss to stand at 86.72. St. Louis Fed President James Bullard made some interesting comments on the sovereign debt crisis earlier. He predicted that both U.S. and Asian recoveries were robust enough to prevent contagion from Europe’s debt crisis. Not only that he thumbed through the history books noting that individual nations had defaulted and more had restructured without contaminating global health. In his view there was no change in the outlook.

Mr. Bullard noted that global central banks were effectively backstopping the largest financial institutions and were prepared to ensure they won’t fail. He also predicted that the peak of the U.S. economic rebound still has some way to run and would likely peak perhaps as late as the fall, adding theta the global rebound looked fairly good.

British pound – As a perceived risky asset whose fortunes remain vulnerable to rising concerns for soaring budget deficits, the pound made its first rebound against the dollar in four days on Thursday. It reached a two-week high at $1.4586 as speculation surrounding shareholder tension for an overseas bid mounted. Britain’s Prudential Insurance earlier made a bid for the Asian arm of American Insurance Group and sold pounds at the time of the announcement to lock-in terms. However, up to 20% of its shareholders are set to vote against the decision, which could scupper the deal and force an unwind of the short sterling position. When markets get a whiff of a scent, investors are quick to take the path of least resistance. However, by my reckoning the hedged portion of the deal would leave Prudential quids-in. From memory they sold the pound at around $1.5200 at that time.

Aussie dollar – The Aussie dollar recovered on the news that China would not tamper with its portfolio allocations. The news was a reprieve for the euro and by implication a vote for the Aussie. It rose overnight to 84.18 for a one-week high, while it surged 2.3% against the yen to ¥75.67. An article in the Australian newspaper suggested that the domestic government was having second thoughts about the implementation of the “super” tax on mining companies and might raise its threshold on taxing mining projects from 6% to perhaps 12%. The article at this point is pure speculation and an official stated to lawmakers that he had no knowledge of possible changes.

Canadian dollar – Another one-week high for the Canadian dollar today came amidst a rosier appetite for risk in general. The emerging emphasis on global recovery stories is once again feeding through to an appeal for commodity positions. Crude oil prices are yet again higher on Thursday, which is also propping the loonie up at 94.71 U.S. cents.

Japanese yen –The Japanese yen remains in no-man’s land against the dollar where it remains at around ¥90.40. It fell against most other currencies after a trade report reflected firming Asia-Pacific demand leaving both its imports and exports at higher levels. Other data showed a net outflow of investor funds from Japanese stocks and bonds through the week ending May 21. The yen eased per pound and euro by almost 1%.

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