FUNDAMENTAL OUTLOOK at 0800 GMT (EDT +0400)
USD
Risk assets consolidated yesterday’s gains overnight. The dollar failed to regain lost ground and Asian equities followed the S&P 500 higher. Respectable global manufacturing prints certainly helped, but the gradual easing of sovereign stresses inSpainandItalyprobably played the greater role. We keep our cautious stance however, noting that European austerity measures are mostly only in their early stages of implementation, so there is scope for further deterioration in economic data as the process of fiscal consolidation begins to bite in earnest. At present, growth forecasts remain relatively conservative, and there is still some upside risk to our expectations of a recession inEuropein particular.
However, pricing in early normalisation or at least policy stability is also too optimistic a view – a fact borne out by Wednesday’sUS data where both the manufacturing ISM and the ADP report missed expectations. We believe the key risks still lie with the Eurozone, especiallyGreece as the market will likely start to run out of patience over repeated delays to the debt swap agreement. Today, trade figures are out inSwitzerland along withUS initial jobless claims. The results ofSpain’s third auction of the year should be known soon after 0930 GMT. After a very successful pair of auctions in January, hopes are high of a repeat performance. EURUSD traded 1.3146 – 1.3198 and USDJPY traded 76.12-76.35.
EUR
Paul Thomsen, chief of the IMF mission toGreece, suggested that the upcoming rescue plan forGreecewould put less emphasis on fiscal consolidation and more on the importance of rapidly implementing structural reforms. He acknowledged that “social tolerance and political support” for further austerity measures has its limits. Thomsen was being interviewed by Greek newspaper Kathimerini.
Speaking inBeijing, German Chancellor Merkel lamented the fact that ratings agency decisions have excessive influence over Eurozone bond markets. She also re-endorsed her incremental approach to deeper integration, saying the Eurozone must move step by step towards a common budget policy.
Eurozone PMIs did not offer much in the way of negative surprises, and largely confirmed the flash estimates. French manufacturing continued to contract in January. German PMI was revised up to 51.0, while the total Eurozone PMI was also slightly better at 48.8.
Our analysts note that the 1.9 point jump in Eurozone manufacturing PMI from December to January was actually the biggest since March 2010, reflecting an across-the-board improvement. They note that output posted the biggest jump since July 2009 and returned to expansionary territory after 6 months, while employment improved for the first time in a year.
Bloomberg reported more details on the current debt swap being discussed. In exchange for a lower coupon, investors could get ‘GDP warrants’ which could slightly reduce the net present value loss to investors, which is currently being reported at more than 70% and larger than prior expectations.
The IIF reported late on Wednesday that it now expected talks to be concluded in the ‘coming days’, saying both sides are ‘close to finalising’ the debt agreement. However, identical assurances have been given previously. The Wall Street Journal reported that differences betweenGermany and IMF on how to proceed forGreece are holding up the deal, especially on the matter of official sector involvement.
Despite ongoing concerns overGreece, Spanish 10-year yields are back to the lowest levels in over 12 months, ahead of a key auction on Thursday. Italian Prime Minister Monti said he expectsItaly to be in a better state next year, but warned that government bond yields need to go down further.
Portugal’s finance minister said fiscal adjustment is needed to restore the country’s credibility. He said the structural deficit will be 2.6% of GDP in 2012 and said he still planned to return to markets next year.Portugal managed to sell about EUR1.5 bn worth of 3m and 6m bills without much incident. He also saidPortugal would not ask for more money or more time.
Eurozone CPI came in at 2.7%, in line with expectations. The high level of CPI and potential second-round effects may yet delay any further policy rate cuts from the ECB. However, liquidity is expected to remain abundant and investors are already starting to focus on the Feb. 29 LTRO.
Ahead on Thursday, Eurozone PPI figures will be released.
JPY
Finance Minister Azumi said that the FOMC’s decision to signal a lower-for-longer policy rate has boosted the yen. He said he is “calmly watching the market now, but I can’t overlook any acceleration in moves by short-term speculators”.
BoJ Board member Yamaguchi said he doubts the recent yen rise will trigger an immediate policy reaction. Given his remit he was referring only to the possibility of further monetary easing from the BoJ, and was not remarking on the risk of FX intervention.
On Wednesday we entered a trade recommendation to buy a 78.75-strike USDJPY one-touch, expiry March 7, 2012. We pay 20% for a potential net payout of 80%. Spot reference at trade entry is 76.15.
With spot now moving lower towards the 2011 lows near 75.50 that prompted the October intervention, we suspect there is an increasing chance of a repeat performance. Switzerland’s establishment of a EURCHF floor may have encouraged Japanese policymakers in this regard as it sets a precedent for wealthy nations with zero interest rates and large balance of payments surpluses using FX policy actively to influence monetary conditions.
GBP
UKmanufacturing PMI came in much better than expected at 52.1. However, our economists warn that manufacturing only makes a small contribution to UK GDP. Much more important for the economy and the MPC decision next week is the services PMI due on Friday.
Our analysts note yesterday’s PMI figures support our view that the MPC will expand its QE programme by less than the GBP75 bn it announced in October.
Bank of England MPC member Posen said the world must break away from the notion of being in an “austerity competition. He added that the bank should create a vehicle to securitise small business loans. He did not divulge whether he was in favour of a further round of QE but saidUK inflation would continue to ease and that the recession would have been much worse if the bank had not done QE.
CHF
Trade figures are due forSwitzerlandon Thursday. The market is expecting a CHF2.5 bn surplus, a slight dip from last month’s CHF3.0 bn print. The data will be scrutinize for signs that a strong CHF is still squeezing exporters.
AUD
Australia’s trade balance for December was much stronger than expected at A$1.7 bn (cons. A$1.2 bn). Our analysts note that coal and iron ore exports -Australia’s two largest commodity exports – actually increased on the month, despite modestly weaker economic data out ofChina.
TECHNICAL OUTLOOK at 0800 GMT (EDT +0400)
AUDUSD 1.0765 resistance
EURUSD BULLISH Resistance is at 1.3234 ahead of 1.3386. Support lies at 1.3026.
USDJPY BEARISH Focus is on 75.35, a break here would signal scope for deeper pull back. Resistance is at 76.42.
GBPUSD BULLISH Next resistances are at 1.5889 and 1.5947. Support lies at 1.5780.
USDCHF BEARISH Support lies at 0.9115 ahead of 0.9066, the Nov. 30 key low. Resistance is at 0.9250.
AUDUSD BULLISH Pressure is on 1.0765, the Sept. 1 high, a clearance of which would signal scope for gains towards 1.1081. Support lies at 1.0570.
USDCAD BEARISH Near-term support lies at 0.9964 ahead of 0.9892, the October 2011 low. Resistance is at 1.0071.
EURCHF BEARISH Support lies at 1.2032 ahead of 1.2000 while resistance is at 1.2086.
EURGBP BEARISH Initial support lies at 0.8273 ahead of 0.8255. Resistance is at 0.8385.
EURJPY BULLISH Rally through 100.89 would expose 101.58. Support is at 98.92.
SCHEDULE
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