Danske Daily: March 19, 2012

S&P500 gains as rising oil price supports the energy sector.
Chinese home prices declined in February as the government programme to curb home prices continues.
Italy’s Prime Minister Monti is moving ahead with labour market reforms.

Markets Overnight

Chinese home prices declined in February in 27 out of 70 cities as the government continues its programme to rein in home prices. Premier Wen Jiabao said last week that housing prices remain far from a reasonable level, indicating that the  government’s efforts to curb the housing market will continue.

Italy’s Prime Minister Mario Monti Saturday reiterated his ambition to forge ahead with labour market reforms this week in order to reach an agreement with union and business leaders ahead of a deadline set for the end of the month. A final round of negotiations will begin 20 March.

In the US the S&P 500 saw another moderate increase on  Friday of 0.1%  driven by a 6.4% gain in the energy sector as  the  oil price jumped. Outside the energy sector the performance was more mixed and consumer stocks were hurt by the surprising decline in the University of Michigan consumer confidence index, indicating that US consumers are starting to react to the recent rise in gasoline prices. Sentiment in Asian trading has generally been good but Chinese stocks were dragged lower by the decline in home prices.

After the big sell-off in US bond markets mid last week, initiated by Tuesday’s FOMC statement, Friday’s trading session was relatively calm with treasury yields moving almost sideways.

In FX markets USD weakened against EUR after US consumer price inflation was lower than expected. Core inflation slowed to 0.1% m/m in February taking annual core inflation down to 2.2%.

In commodity markets the oil price advanced for a second day as investors bet that Saudi Arabian crude output near the  highest level since 1980 signals  that fuel demand is increasing

Global Daily

Focus today: The Greek Credit Default Swap auction will take place today. The idea is to determine the fair price of the bonds and use that price to determine the cash settlement amount. The outstanding net notional of CDS contracts on Greece is around EUR3.18bn and the payout will be about EUR2.5bn. Although the gross amount is notably larger than the net amount, we expect the settlement to run fairly smoothly as market participants have had plenty of time to prepare for this event. 4.369 CDS contracts on Greece are registered. This is the first credit event that triggers CDS on an industrialised country. In the US we expect the NAHB housing market index to remain stable after seven months consecutive increase, suggesting some improvement in housing market activity. Further, New York Fed President Dudley will speak on the economy this afternoon. The FOMC statement last week started a significant bond market selloff and Dudley’s speech will be watched carefully to see if there is any twist in language compared to the statement.Dudley is part of the inner circle in the FOMC and usually on the dovish side.

Fixed  income markets:  The selloff in the US lost some steam late last week, but the signs of stabilisation in Treasury markets remain tentative. In the meantime the German bond market broke important levels, with Bund yields breaking through 2% and moving higher. Both the US and the German yields have moved into a new and higher trading range. We look for US 10yr Treasuries to trade 2.10-2.40%, while German 10yr Bund is in a 2.00-2.20/2.30% range. Going into a thin week in terms of scheduled events, the fixed income market will receive little outside information to trade on. Hence, we have the feeling that the outcome of this week will mostly be shaped by internal dynamics in the bond market. There is still some way to go before 10yr US and German bond yields hit the top of their ranges. While these might be tested this week, we believe that it will take some more significant new information to break higher, which we are unlikely to get this week. 

FX markets: The recent rise in US yields coupled with more aggressive BoJ easing has spurred a sharp JPY depreciation, as FX carry investors have targeted JPY as the preferred funding currency. The associated change in non-commercial investor positioning has been quite sharp, and the latest IMM positioning data show a further build-up in JPY shorts. IMM net shorts have reached the most extreme levels since April 2011 and as speculative flows thus seem to have already turned, much of the 'easy' rise in USD/JPY seems to be behind us. That said, we see potential for a further build-up in JPY shorts, as the current environment (loose monetary policy, decent economic data) is supportive for carry trades. Investors should be prepared for today's Greek CDS auction and we do not look for a major FX market impact. This week's series of Fed speeches, beginning today with Dudley, will provide further clues on the Fed's thinking and whether the recent rise in US yields is justified. If not, USD could prove exposed, not least versus JPY.