Euro Firmer As Periphery Short Term Yields Rally

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Market Drivers for September 4, 2012
RBA keeps rates on hold no hint of future cuts
Swiss GDP misses
Nikkei -0.10% Europe -0.15%
Oil $97/bbl
Gold $1694/oz.

Europe and Asia:
AUD RBA Rate Decision 3.5% unchanged
AUD Current Account -11.8B vs. -12.3b
CHF GDP -0.1% vs. 0.2%
EUR Eurozone PPI 0.4% vs. 0.3%
GBP PMI Construction 49.0 vs. 50.1

North America:
USD Markit PMI 8:58
USD ISM Manufacturing 10:00
USD Construction Spending 10:00

It’s been a lackluster night of trade in the FX market as players slowly start to return to their desks from summer holiday vacation. With little data on the economic calendar the euro treaded water for most of the morning European session but remained bid above the 1.2600 level as yields on both Italian and Spanish bonds short dated bonds declined sharply in the wake of yesterday’s comments by Mario Draghi to the European parliament.

Mr. Draghi stated that he did not view the practice of buying sub-3 year periphery bonds by the ECB as being outside of the central bank’s mandate indicating that European monetary officials will continue to support the short end of the curve in EZ periphery sovereign debt market. The ECB appears to have made a calculated decision to concentrate its firepower on the short end of the yield curve in order to lower the borrowing costs for Italy and Spain for the time being. However, while rates at the short end of the curve have clearly declined, longer term rates for both Italy and Spain have remained stubbornly high indicating that investors are unwilling to assume duration risk.

Therefore, while the ECB policy may provide some temporary relief, it is fraught with danger unless it can address the structural problems inherent in the 17 member monetary union. For now however, policymakers are interested mainly in solving the most pressing financing needs of the periphery economies and as such are likely to direct most of their support to shorter term bonds.

Elsewhere in Australia, The RBA left its benchmark rate at 3.5% as expected and offered no hints that it was looking to lower rates anytime in the near future, causing Aussie to rally towards the 1.0300 figure in late Asian session trade. The RBA repeated many of it prior points noting that global growth has slowed, the commodity prices important to Australia have fallen sharply and that weaker recent indicators point to uncertainty on Chinese growth going forward.

However, the central bank also stated that, “ interest rates for borrowers are a little below their medium-term averages. The impact of those changes is still working its way through the economy, but dwelling prices have firmed a little and business credit has picked up this year.” Overall the RBA has essentially reaffirmed its stance that “monetary policy remained appropriate,” disappointing the doves who had expected a more accommodative posture from Australian monetary officials.

In North American trade today the calendar carries the ISM Manufacturing data as well as construction spending numbers. The ISM report is expected to improve mildly to 50 from 49.8 and will be the first of a series of data points this week that will provide investors with a more complete picture of the US economy. Recent US performance has been better than that of most of its G-10 counterparts and if today’s data continues to confirm this trend, it will likely provide a boost to risk appetite and perhaps help to rally high beta currencies as the day proceeds.

Boris Schlossberg
Managing Director

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