Risk FX Rally Meets Profit Taking

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Market Drivers July 2nd, 2012
Finland and Netherlands say they will block ESM buying in secondary market
UK PMI jumps 2 points to 48.6 with new orders at 5 month highs
Nikkei off -0.04% Europe up 1.41%
Oil at 83.50/bbl
Gold at $1596/oz.

Asia and Europe:
AUD AiG PMI 47.2 vs. 42.4
AUD TD Securities -0.2% vs. 0.0%
JPY Tankan Large Manufacturers Outlook -1 vs. -4
CHF Retail Sales 6.2% vs. 2.1%
CHF SVME PMI 48.1 vs. 44.8
EUR Eurozone Unemployment 11.1%
GBP PMI Manufacturing 48.6 vs. 46.6

North America:
USD Markit US PMI Final 8:58
USD ISM Manufacturing 10:00
USD ISM Prices Paid 10:00
USD Construction Spending 10:00

A quiet start to week’s trade in FX tonight with risk currencies consolidating their gains from Friday amidst a generally barren economic calendar, some profit taking flows and some negative rhetoric from Finland and Netherlands. Finland and Netherlands stated that they would seek to block ESM from buying bonds in the secondary market taking some enthusiasm out of the risk trade after last week’s surprisingly productive EU summit.

Euro zone leaders agreed last week on steps to shore up their monetary union and bring down borrowing costs for Spain and Italy, but offered few details on the use of the temporary EFSF and permanent ESM rescue funds. ESM bond buying from secondary markets would require unanimous approval given the opposition from Finland and Netherlands chances a small that the funds could now be used to stabilize sovereign bonds after they are issued and could put crimp in those plans.

The political jockeying amongst the EU members only underscores the importance of the ECB as a key agent of stability for the EZ credit markets. Traders will watching keenly the ECB meeting this week which promise to be the marquee event on that side of the Atlantic, as they await further monetary stimulus from Mr. Draghi and company. The two key factors that the market will be watching are the ECB policy on interest rates as well as the prospect of another LTRO.

If the ECB remains reluctant to act, much of the goodwill from last week’s summit will quickly evaporate and the EUR/USD could return to test the 1.2500 level as markets express their discontent with policy inaction from EZ. For now the consolidation is likely to continue but the news from Finland and Netherlands has certainly taken the wind out of the sails for the time being.

Elsewhere in UK the PMI Manufacturing data showed surprising strength rising to 48.6 from 46.6 eyed with new orders climbing to a 5 month high. The overall index remained in contractionary territory but the improvement along with the decline in prices should provide some solace to the BoE which is considering a monetary stimulus package at the next meeting this Thursday. Cable remained well bid in the aftermath of the release but the rally was capped at 1.5700. We have noted elsewhere that the pair may be facing a challenging week as the growing inquiry onto the LIBOR fixing scandal could create political as well as economic risks.

In North America today the key economic data point will be the ISM Manufacturing report with the looking for a pullback to 52.1 from 53.5 the month prior. If the data surprises to the upside it could provide a small risk to FX as the day proceeds, but the overall tone remains one of consolidation and profit taking and markets will like continue to be rangebound for the rest of the day.

Boris Schlossberg
Managing Director

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