EUR: Spanish Budget Isn’t Euro’s Only Problem

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Daily FX Market Roundup 09-26-12

EUR: Spanish Budget Isn’t Euro’s Only Problem
USD: Jobless Claims Needs to Decline to Avoid Ugly Payrolls
GBP: Uptick in Consumer Spending
AUD: Shrugs Off S&P Downgrade of South Australia
AUD: Financial Stability Review Shows Cautious Optimism
NZD: Trade Balance on Tap
JPY: All Eyes on Risk Appetite and Chinese Data

EUR: Spanish Budget Isn’t Euro’s Only Problem

Eight trading days have passed since we have seen a positive close in the EUR/USD. This is the longest stretch of weakness for the currency pair since May and the steepest slide in more than 2 months. Coming off the heels of aggressive monetary easing by 3 of the world’s most powerful central banks, the EUR/USD’s inability to hold above 1.30 is a reflection of the deep-seated concerns about Europe’s sovereign debt crisis – which refuses to go away. Regardless of how much effort the European Central Bank takes or the promises of a tighter fiscal union by European leaders – none of it seems to be enough and it won’t be until the 17 countries in the Eurozone commit to a fiscal union. While the EU agreed to a banking union on paper various nations have collided on how much oversight the banking supervisor (ECB) should have and at this juncture, the January deadline for a blueprint appears to be overly ambitious. The point that we want to make is that nothing is easy when it comes to resolving Europe’s sovereign debt crisis.

Tomorrow Spain will be releasing its 2013 budget and the prospect of new austerity measures ignited widespread protests and rioting on the streets of Madrid. Prime Minister Rajoy is certainly in a very difficult position – on one hand, the people of Spain are kicking and screaming about greater austerity with Catalonia, the country’s most important economic region threatening to secede over budget issues. On the other, the financial community refuses to let up on Spain until their deficit is reduced significantly and the country requests for a bailout. It is widely believed that the Budget will include restrictions on hiring of civil servants, freezing of wages, limitations to early retirement programs and other steps that will save the government EUR39 billion. If the Spanish government over delivers and announces more ambitious reform programs, the EUR/USD will rally but it will suffer if the reduction in spending falls short of expectations. Despite the denials by the Rajoy and other European officials, it is widely believed that the reforms are a precursor to a formal bailout request.

It is is truly a problem however when Spaniards don’t even want to help themselves. Part of the reason for the euro’s weakness is the Catalan government’s decision to set early elections on November 25th. The country’s strongest economic region is taking advantage of the recent riots to call for more autonomy. According to the President of Catalonia, Andres Mas, “If Catalonia were a state we would be among the 50 biggest exporting countries in the world,” and “The sharing of sacrifices between the state and the regions is very unfair.” The Prime Minister has his hands full and needs to tread carefully. On top of that, protests in Greece over their new round of austerity cuts also turned violent, a sign that Europe’s economic crisis is also a political and social crisis. While the Spanish Budget isn’t the only problem for the euro a Spanish bailout is one of the few things that can save the euro. Look for more volatility in the EUR/USD on Thursday with the Spanish budget and new reform packaged scheduled for release. German unemployment and Eurozone confidence numbers are also expected tomorrow.

USD: Jobless Claims Needs to Decline to Avoid Ugly Payrolls

Anti-risk sentiment continues to drive movements in the currency markets with the U.S. dollar trading lower against most of the major currencies. The only exception was the New Zealand dollar, which benefitted from AUD/NZD weakness. The U.S. released more housing market data this morning and according to the report, new home sales fell 0.3% in the month of August. While we continue to see signs of a gradual recovery in housing, there have also been pockets of weakness that tell us low interest rates is not enough. There can’t be a sustained recovery in housing until there is a broader economic recovery. The new home sales report only adds pressure on a market that is already heavily burdened by the deep seated risk aversion caused by Europe’s troubles. Fed President Evans called on the central bank to take additional steps to strengthen the economy, which would be more significant if he was a voting member of the FOMC this year, but he isn’t. Revisions to second quarter GDP are scheduled for release on Thursday along with durable goods, jobless claims and pending home sales. We are most interested in weekly jobless claims because they increased materially last week and the last time we saw 2 weekly jobless claims reports that high was in June when payrolls rose a mere 45k, its weakest in more than 1.5 years. If claims do not decline, then we are looking forward to a very ugly non-farm payrolls report next month.

GBP: Uptick in Consumer Spending

Compared the euro, the British pound is faring much better against the U.S. dollar. For investors, sterling is a source of safety even though the prospects for the U.K. are directly linked to the health and stability of the Eurozone. Nonetheless, the Eurozone is ground zero for the world’s problems and its currency is suffering the most. Stronger consumer spending numbers also helped to keep the British pound supported. According to the Confederation of British Industry, retail sales increased for the first time since June. The details of the report were even more encouraging with retailers looking forward to stronger sales in October. The final release of second quarter GDP is due tomorrow along with current account. The data is expected to confirm that the U.K. is in recession after having experienced 3 straight quarters of negative growth. In Q2, the economy contracted by 0.5%, its steepest pullback since the first quarter of 2009. Current account activity is also expected to deteriorate with economists looking for the deficit to reach -12.2B, up from -11.2B in Q1. Overall data from the U.K. hasn’t been good, but the risk of holding sterling is far less than the risk of euros at this time.

AUD: Shrugs Off S&P Downgrade of South Australia

While the Canadian and Australian dollars weakened against the greenback, the New Zealand dollar edged higher. No economic data was released from Canada but the 1.5% decline in oil prices weighed on the currency. Despite its weakness, the Australian dollar is actually holding up quite well considering that Standard & Poor’s downgraded the rating of South Australia from AA+ to AA. Like many other countries around the world, deteriorating finances is to blame after the state announced a forecast for its largest deficit ever in 2012-2013. Australia as a whole is rated AAA by all 3 major rating agencies but individual states including South Australia, Queensland and the Northern Territories have been stripped of their perfect rating in recent months. The country’s main sovereign debt rating is not at risk but these downgrades will increase the borrowing costs for individual states. The New Zealand dollar on the other hand has performed quite well despite a larger than expected trade deficit. Last month, New Zealand exports contracted significantly, causing the country’s 97M surplus to turn into a -789M deficit. A major decline in demand for dairy and meat led to the country’s weakest deficit in 19 months. Hopefully demand will improve quickly otherwise the export country is in big trouble. Australian job vacancies, New Zealand business confidence and Chinese industrial profits are scheduled for release this evening.

JPY: All Eyes on Risk Appetite and Chinese Data

Like the U.S. dollar, the Japanese Yen traded higher against all of the major currencies with the exception of the NZD. The last 24 hours and the next 24 hours will be extremely quiet in terms of Japanese data. This means that the Yen will trade on risk appetite and Chinese data. If industrial profits from China are strong, we could see a recovery in risk assets and a decline in the Yen but if profits are weak, which is more likely, the Yen could extend its rise. While the Yen is rising quickly against many currencies, its strength against the U.S. dollar has been limited. This has a lot to do with both the USD and JPY being safe haven currencies but fear of intervention is also limiting the slide in USD/JPY. Yet with the Japanese government still trying to find a new Finance Minister to replace Azumi, the threat of intervention before a new person is appointed to lead the agency that determines currency policy is slim. Currently, there’s word that Deputy Prime Minister Okada is being considered for the post along with Policy Chief Seiji Maehara whose appointment would be interesting because he has been a vocal proponent of taking more active measures to weaken the Yen.

Kathy Lien
Managing Director

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