Market Drivers September 24th 2012
IFO misses exacerbating risk off flows
BOJ hints at more dovish path
Nikkei off -0.45% Europe -0.94%
Oil $91.67/bbl
Gold $1761/oz.

Europe and Asia:
JPY BOJ Minutes of Aug 8-9
EUR German IFO – Business Climate 101.4 vs. 102.4
EUR German IFO – Expectations 93.2 vs. 95

North America:

The week started with a decidedly risk off bias in FX that was only exacerbated by the weaker than expected IFO survey which hit 31 month lows in business sentiment pushing the EURUSD below the 1.2900 figure in morning European trade. IFO survey printed at 101.4 versus 102.6 eyed with future expectation component dropping to 93.2 versus 95.5 forecast.

This was the fifth consecutive monthly decline for IFO suggesting that the economic slowdown in EZ precipitated by the crisis in the region’s sovereign debt market is showing no signs of plateauing. The subcomponent data revealed that manufacturing sentiment fell by -2.9 points and construction sector morale decreased by -3.1 points. Retail sector was the one bright spot as participants were more positive about their current situation and only marginally negative about future results.

Nearly 50% of the IFO respondents were polled before the key German Constitutional court vote that reaffirmed the legality of ESM and therefore the survey may have been skewed to the downside Nevertheless the IFO results were a clear disappointment to the FX market which was looking for some signs of stabilization in the German economy.

Elsewhere the latest BOJ minutes revealed that that Japanese monetary authorities are clearly turning to a more dovish policy bias as the yen remains stubbornly high and the country’s export dependent economy continues to struggle.

However, despite the discussion and a clear leaning towards a more accommodative policy stance, the BOJ has yet to undertake any dramatic action to weaken the yen. We have long argued that any FX intervention schemes will be reversed quickly by the market and only a sustained and substantial commitment to a massive QE program would reverse yen’s strength. The yen has been an unwitting victim of the Fed’s QE policy actions which have depressed US yields and as result lowered USD/JPY which is very sensitive to yield differentials between USTs and JGBs.

If the BOJ truly wants to see a lower yen, it must announce a massive QE program of its own in order to offset the impact of Fed’s actions. Up to now however, the Japanese officials have only made modest and gradual attempts at QE which have had little lasting impact on the currency. Therefore the yen remains near record highs, with USD/JPY trading today at the 78.00 level as risk off flows continue to push the pair ever closer to the key 77.00 level. The policy makers will need more than rhetoric in order to weaken the currency and stimulate demand in the moribund Japanese economy.

In North America today the calendar is truly barren of any economic data and trading will likely continue to focus on events in Europe, with traders keeping an eye on Greece and Spain. The Greeks have denied that they are facing a 20 Billion euro shortfall in their budget but time is clearly running out for another bailout and if the financial situation in Athens is even half as bad as reported it could create fresh stress on the EURUSD. Meanwhile Spain still refuses to confirm that it will ask for an official bailout from the EU and that uncertainty has been one of the factors in the recent selloff in the EURUSD. For now the pair appears to have stabilized at 1.2900 but if risk aversion flows resume in North American trade it may tumble to test critical support at the 1.2850 level as the day proceeds.

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