Currency Markets Ahead: July 15-20, 2012

The Foreign Exchange markets are coming off a relatively less volatile period this past week with a tight trading range, see-saw battle between currency bulls and bears. Initially thought to be a game changer, optimism already has turned against a supposed deal to recapitalize European banks, the latest in a long line of plans to staunch the eurozone debt crisis initially greeted with enthusiasm then quickly discarded as insufficient.

"Hopes that the EU was finally getting to grips with its crisis and that monetary stimulus would boost global demand have faded," Kenningham said in a research note. "With euro break-up risk likely to rise in the second half of the year and monetary policy looking increasingly impotent, things could get much worse before they get better." Consensus is becoming more widespread now that central banks are running out of bullets. Spain raised capital at 7% today, a level at which Italy and Greece asked for bailouts from the ECB. 
 
Eurozone exports for May flew past the forecast of .2%, and posted a 3.9% increase in exports vs April!  So, the exporters in the eurozone are saying, "go ahead and mark down the euro, we'll increase exports!"
 
The Aussie dollar (some say: now the new Swiss franc) while it did see selling last week in conjunction with the euro sell-off, has retained $1.01 while reports came in of some foreign investors now were seeking safety in the aussie instead of the dollar, yen, and Treasurys.
  
A Reuter’s poll of Primary Dealers in US Government Securities shows that expectations for a US QE3 have jumped from 50% last month to 70% after the disappointing US jobs data last Friday.
 
The scandal that has been discovered regarding the fixing of LIBOR (London Interbank Offered Rate) rates is getting lots of international press. The Economist magazine says that "as many as 20 big banks have been named in various investigations or lawsuits alleging that LIBOR was rigged." As much as $800 trillion of Derivative securities have been priced off the LIBOR rate, so there is plenty of incentive to manipulate LIBOR…
 
The Swiss franc continues to get sold, and many market participants think that the Swiss National Bank (SNB) is behind the selling. The SNB is selling francs to keep the cross to the euro from getting out of whack. When the euro dropped 2-cents last week, the franc had to keep in step or have the 1.20 cross rate ceiling become an issue.
 
The Bank of Canada (BOC) is once again highlighting the growth in the economy and in jobs, and saying that interest rates might have to be increased. But the markets aren't buying it - fool them once but not twice.  Recall that the markets got all lathered up over remarks that BOC Governor Carney made about hiking interest rates, only to not have that come to fruition.  But Canada remains on solid footing. The Banking sector is second to none, they have commodities that other countries want and need plus strong domestic demand. The results may not show in the Canadian dollar/loonie right now.
 
Tuesday of the past week saw some trouble for the Australian dollar as Chinese imports, expected to come in around 11% showed only a 6.3% increase. Thus Australian exports to their largest trading partner will now be perhaps lower than original estimates. 
 
Also of note on Tuesday, the U.S. Treasury 10-year note traded with a 1.51% yield and Germany sold T-Bills at a negative -.34% yield!
  
"Dr. Doom" Nouriel Roubini says the "perfect storm" scenario he forecast for the global economy earlier this year is unfolding right now as growth slows in the U.S., Europe as well as China. In May, Roubini predicted four elements - stalling growth in the U.S., debt troubles in Europe, a slowdown in emerging markets, particularly China, and military conflict in Iran - would come together to create a storm for the global economy in 2013.

The euro traded weaker on Tuesday as concerns over the rescue and bailout package have drawn concerns. The credibility of the rescue package for Spain has been called into question even before the loans have been disbursed," said Nicholas Spiro, director of London-based consultancy Spiro Sovereign Strategy. Even with its full firepower, the ESM is "woefully inadequate," said Spiro. The ESM's €500 billion is roughly equal to one-sixth of the outstanding bonds issued by Spain and Italy, he said. "It would struggle to defend Spain, let alone Italy."

What's more, much of the ESM's resources have already been committed. The ESM will ultimately take over responsibility for recapitalizing Spanish banks, which could cost up to €100 billion. It will also back a second €130 billion bailout for Greece, along with the International Monetary Fund. The bailout for Cyprus could drain another €5 billion to €10 billion.

One big concern is that Spain will be forced to seek a bailout similar to those given to Greece, Portugal and Ireland. While the government's debt load is relatively small, the fear is that Madrid will ultimately pay the price for the nation's banking crisis. That could cost the ESM another €200 billion, which is roughly how much debt Spain owes in the bond market, said Christian Schulz, a London-based economist at Berenberg Bank. Given all of these obligations, "the ESM is clearly too small," said Schulz.
 
On Wednesday, Spain's Prime Minister, Mariano Rajoy, announced this morning, that he had increased taxes and found other spending cuts that would reduce Spain's deficit. This is the 4th austerity package that Rajoy has announced in the past 7 months. So, just about every other month a new austerity package seems to be in the cards. 
 
FOMC Minutes were released and more governors were tending toward easing of monetary policy.  Although this hurt US Stocks, currencies were more affected by the continual deterioration of the Spain and European situation. 
 
Last Thursday eurozone Industrial Production printed for May, and showed an increase of .6% VS April, with Germany providing the cushion for all the countries posting negative numbers. And while May's number is good, it's May's number. That's right, it's two months old! The other problem with the number is that we could average out April and May's IP and it would still be .9% below production levels of the 1st QTR.  So, the slowdown in the eurozone continues to extend its roots, and the forecasters in Australia were right for once, as they had forecast no job growth for Australia in June. In fact, it was negative, with June's job losses wiping out May's job gains.

This was much weaker than expected or forecast, and it weighed heavily on the AUD as the night went along. It's almost like a perfect storm for the AUD, because now it will have to deal with the China 2nd QTR GDP report that will print tomorrow. I've already told you how it is widely expected that China's 2nd QTR GDP will be very weak.
 
The Bank of Japan (BOJ) also disappointed the Japanese market watchers by holding back on more economic stimulus.

On Friday we got news that Australian Treasurer, Wayne Swan, was in Beijing for talks with the Chinese about the Aussie dollar (AUD) becoming the third currency directly convertible to the renminbi/yuan.  Readers, that removes U.S. dollars from the middle of the terms of trade between these two countries. Even with China slowing down and probably bottoming out in 2nd QTR, that represents some very large numbers that will no longer require the use of U.S. dollars!
 
China, having suffered from the financial meltdown of 2008, seems now attempting to convert their export led economy to a domestic demand led economy, with their exports providing the gravy. It will be important as we go along this year, with both the eurozone, and the U.S. melting down again, to see just how far along the Chinese have come with this switch. One of the keys could be the fact that personal income in China has increased over 13% in the last two years. So, the Chinese have far more disposable income than they've ever had before, and that bodes well for a country that wants domestic demand to be the driver of their economy.
 
While we're talking about China: The Big News out of China overnight was the printing of their 2nd QTR GDP. The 2nd QTR GDP printed at +7.6%...  I'll even go back to my customer that had a business in China for years, and tells me that you can only believe half of what the Chinese report. So half of 7.6% is 3.8% - now show me another country that grew 3.8% in the 2nd QTR! Market participants have formed a consensus that this quarter is thought to be the bottom in the Chinese economy.
 
Aussie dollar (AUD) traders and investors liked the color of the Chinese GDP and the AUD is attempting to gain back the over 1-cent loss it took yesterday. And the euro is pretty much flat on the day, as it bounces back and forth around the 1.22 handle.
 
In the U.S., the Initial Jobless Claims from last week that were released Thursday and the number of claims for the week was 350,000, the lowest weekly number in 4 years. The week in the U.S. was a short one and for that matter, not much got done on Thursday and Friday following the Wednesday holiday to celebrate our Independence Day.
 
Moody’s downgraded Italy’s sovereign debt by two notches overnight. But then Italy went out and auctioned 5.25 Billion euros worth of bonds and had strong demand for the bonds! In other news, Greece is failing to meet 210 of 300 austerity targets.