EUR/USD Rally Turns Tail – Was That It For Now?

The Euro rally has turned into a bit of a rout as ebullience on a “successful” Italian bond auction faded in the wake of other, more troubling news.  The unbearable wait for intervention continues.

Yesterday we asked whether this “turbo squeeze” in risk would continue or fade quickly and suggested that we might have our answer by mid-week. From the action today, it appears that the market is trying to give us an answer already – it’s over already, at least it appears to be from a Euro perspective. Still, for the very shortest term, we’re uncomfortable trying to make a firm call, particularly with potential end of the month effects and ad hoc political risks running all the way through the end of next week, when we have the EU summit.

The Italian bond auction caught the market’s attention earlier today and the bear squeeze picked up where it left of yesterday before and just after Italy managed to foist the full allotment of debt onto the market, albeit at yields more or less in line with where benchmarks were trading before the auction (both 2-year and 10-year debt saw yields north of 7%, which most consider an unsustainable level for the longer term.)

Later, the Euro at first consolidated after the Finnish “Finns” party called for a no confidence vote due to the government’s handling of the EU crisis and its EU policy in general.  According to a Wall Street Journal article, the Finn party said it will ask the government whether it “has planned for a possible break-up of the euro currency and whether the government accepts that the parliament budget power gets transferred to the European Commission.”

Of more concern, the ECB today failed to sterilize all of its bond purchases, falling some EUR 9 billion short (coverage here from Bloomberg Businesweek) a sign that the ill-timed EU requirements on banks to bolster their capital reserves is putting strain on the system. If the ECB feels that it has to reduce its SMP buying of bonds, one can’t help but wonder whether a hard default is only a matter of days away (of course, the very strong market assumption here is that officials will step in with dramatic measures before the market forces total chaos).  The countdown to next week’s EU summit continues.

Odds and ends:

Impressive to see a G10 economy, Sweden, managing a chunky 4.6% YoY growth rate in Q3. But with the European economy in a tailspin and signs that the Swedish housing bubble is finally topping out, the deceleration from here could get painful for Sweden and its credit bubble/strong export economy. After moving to the upper part of the range lately above 9.25 and almost to 9.30, EUR/SEK reversed back sharply lower today – but it’s trajectory from here may track risk appetite inversely. Still, one wonders if SEK retains as much risk sensitivity as it did in the 2008/09 cycle – only a test above 9.30/35 will tell us.

Canada reminds us why USD/CAD is trading over parity as its Q3 current account came out at -$12.1B and has now registered 12 consecutive quarters of negative current account readings since 2008. Still, it’s valuation looks a bit fairer than other commodity currencies (and oil has been on the rise of late – particularly North American grades), so one wonders whether today might have been a good place for the AUD/CAD bears to sniff out levels.

AUD/JPY traders of the world unite! Or least have a look at my article on the AUD/JPY from earlier today concerning the pair’s trajectory. I consider the JPY question a very interesting one for the moment, as I have hopefully made clear in other posts in recent days.

US home price data for September was weaker than expected for the CaseShiller survey, but the QoQ numbers weren’t bad and the Sep. overall House Price Index showed a 0.9% increase as some may argue that the US housing market is showing signs of stabilization. Recall that the Bloomberg survey of bond dealers yesterday suggested that the Fed stands ready with half a trillion USD in MBS buying sometime early next year and there is further reason to believe that house prices at least won’t serve as a dramatic drag on the US economy in 2012.

Looking ahead:

The EcoFin meeting is in full swing and concludes tomorrow, though “sources” don’t seem to be producing much noise on where the discussion has taken EU finance ministers at the moment. We’ve hardly seen any reduction in EU bond spreads today despite the Italian bond auction and the EUR basis swaps show funding strains are as bad as ever. Only the hope of the intervention is preventing the all-out rout in risk from continuing. We've also got end of the month effects to consider.

We’ve got a full schedule of US data on tap for the rest of the week, but it will likely be largely ignored considering the import of the EU situation, barring dramatic surprises to expectations. (Got one of those just now with a spectacular jump in US confidence in November – not confirmed in the weekly survey s, but interesting nonetheless). Tomorrow sees the Fed Beige Book and Thursday is world manufacturing PMI day, followed by Friday’s US employment report. But the EU newswires will continue to provide more impetus for market action than the economic calendar.