EU Summit Fails to Enthuse. US Confidence Crumbling?

The market is trying to celebrate the latest EU summit, but there’s not much there worth toasting. GBP is getting a nod of approval from the market as the UK gave the new fiscal compact the cold shoulder.

The market initially celebrated the outcome of the latest EU summit today, first because 25 of the EU 27 signed on the dotted line and second as the intensity of the confrontation with Greece was eased as Sarkozy intervened against the German position of more direct control over Greek finances. As our chief economist discusses in his chronicle today, however, this summit once again failed to deliver on the longer term issues dogging the Euro Zone and was really just another exercise in buying time until we either. The two holdouts on signing the treaty were the UK and Czech Republic. Interestingly, President Sarkozy said he would not ask the assembly to ratify the treaty before the presidential election and the likely winner of that election, the socialist Hollande, said that he would seek to renegotiate it. So do we have a pact or don’t we. If we do and countries move to fulfil its requirements, many EU countries will be hard pressed to move their budget in line with its requirements (budget deficit must be lowered to 0.5% of GDP – the most obvious reason that the UK would not sign on.)

The next key event risks remain 1) Greek PSI deal and bailout agreement 2) Portugal and whether it is headed for a new bailout (those fears eased today as yields backed off from yesterday’s spike and 3)The ECB’s LTRO (aka Draghi’s trillion Euro baby) to be launched at the end of February.

In the background, asset markets are rallying again as the concern that this EU summit would see a more negative outcome eased and on the general support provided in the wake of last week’s dovish FOMC meeting, as the market appears to see this and the ECB liquidity bonanza as the latest dose of QE liquidity morphine aimed at avoiding the inevitable pain of the true insolvency of the system. And as with morphine tolerance, each round of QE will need to get bigger and bigger to have the same effect. As the US equity markets open strongly, we note that the Euro is suffering in the crosses, with EURGBP posting a four day low as the market nods its approval for British rejection of the new treaty (this sets up an interesting test of what it means any more for the UK to even be in the EU.)

Economic Data
US house prices fell a bit more sharply than expected in November, but it has been over the last two months that we’ve seen the most momentum in US housing indicators. The Chicago PMI was weaker than expected at just over 60, but that level still suggests solid expansion. The biggest blemish on that report was an order backlog number that dropped to 48.3, the lowest since late 2009. The US Conference Board Consumer Confidence index surprised massively to the downside, a real dash of cold water on the view that this recovery is set to soar – let’s see whether other data corroborates this. The weekly Bloomberg Consumer comfort survey rose in the October to December time frame, but has begun stagnating over the last several weeks, somewhat confirming today's Conference Board data.

Canada’s GDP actually contracted for the first time in six months, sending AUDCAD back higher, even if that pair remains overvalued. Businessweek was out with an article late yesterday detailing the extent to which the pair may be overvalued and describing some of the dynamics. USDCAD meanwhile tested the 200-day moving average close to 0.9950 before the poor growth data saw the pair bouncing slightly.

Looking ahead
Tomorrow is world PMI data, with China up reporting tonight, though we continue to warn that we need to wait for the February data for a better impression of Chinese activity. Watch out for the Australian building approvals and home price data. The Aussie has certainly been driven far more by capital flows and the boost in commodities lately as investors seek to enjoy what carry they can get against the non-yielding money printers as long as asset markets remain complacent, at least. As the housing market continues to soften, the RBA may be happy to lower rates at some point if investors continue to push the Aussie any higher from here.

The US Consumer Confidence report for January was a real shocker relative to expectations and may spoil the risk parade here.