Euro Relief Ahead of Critical ECB LTRO Tomorrow

We’re seeing the EUR/USD move higher out of the microscopic range of previous days, but the resistance ceiling is fairly low and we have a key test ahead with tomorrow’s ECB 3-year LTRO results.

More Euro relief today as the market continues to enthuse about this week’s ECB 3-year LTRO operation today and tomorrow and its possible salubrious effect on EU sovereign spreads, which tightened rather sharply in places once again in today’s trade. Encouragement for the idea that the ECB operations will have the desired effect came with today’s Spanish bill auctions, which were oversubscribed and saw Spain able to exceed the maximum auction target by a wide margin. Further support came from a better than expected IFO reading from Germany – the second marginal rise in a row, if not a changer of the negative trend. Still, any resilience in an industry survey like this is rather remarkable given the widespread doom and gloom sentiment on EU growth in the near term.

Also boosting risk appetite and thus punishing the USD was very strong US housing starts and building permits data for November. More on that below.

Riksbank lowers rate

Most expected the Riksbank to lower rates by 25 bps today and Sweden’s central bank responded with the expected cut. The initial reaction saw EUR/SEK slightly higher before the market realized that forward interest rate expectations actually rose a few bps in the wake of the statement and then EUR/SEK swooned once again – to its lowest level (well below the symbolic 9.00 level) in over 3 months. By later in the day, Sweden’s 2-year swap rate was a full 7 bps higher from this morning’s lows before the Riksbank announcement. The accompanying statement was fairly negative, as both inflation and growth expectations were lowered very slightly and considerable uncertainty on the outlook from external factors was expressed. Meanwhile, the expected path of the Riksbanks’ policy rate fell to 1.7% for 2012 vs. 2.2% previously. Still, that’s only 5 bps below the actual current rate of 1.75% and the market was perhaps fearing a large downgrade of expectations. The idea that the SEK can continue to shine as a safe haven appears alive and well after today’s performance, though a sterner test for that thesis would be a sustained three day sell-off in global equities, for example. (EURSEK bounced, if in a bit of a dead cat way, as equities were hit with steep losses on Dec 12-14).


US Housing Starts

US Housing Starts were very strong in November, notching a 685k reading on an annualized basis and making it appear that starts remain in a gentle uptrend beginning around mid-year and thus encouraging the view that at least housing won’t be a drag on US economic growth in coming months/quarters. Since November 2008, only one month showed a marginally stronger reading than today’s reading (April 2010). The Building Permits number for November was similarly strong.

Looking ahead

Tonight, look out for Japan’s latest Trade Balance data, which is tending lower and has been in deficit for months on end on an adjusted basis. The JPY seems to be shrugging off the North Korean succession nervousness here (fully justified as it is impossible to quantify the risks until something actually happens), but can it shrug off the sovereign debt load if Japan becomes a chronic debtor nation, particularly if Chinese demand slows in coming months? So far, bond markets have calmed again after a recent spike higher in yields on longer Japanese bonds, but the long term sustainability question won’t go away anytime soon.

Tomorrow we get the results of the first ECB 3-year LTRO, which will tell us how hungry banks have been to borrow from the ECB for longer periods and possibly also indicating an appetite for using this facility to buy EU sovereign debt and theoretically keep the debt crisis at bay for another little while. We discussed this and the ongoing wrangling over what concessions the US Congress may try to extract from the Obama administration for continuing with the 2% payroll tax into the New Year. An FTalphaville entry today suggests that EUR 360 billion might be a starting point for LTRO expectations.

Otherwise, it is important to remember the shaky political backdrop even as the various sovereign debt measures in the EU have improved rather sharply here. As well, it behoves us to remember that markets are thin and could remain jumpy until we get back down to more normal conditions in the New Year. EUR/USD at 1.3150/1.3210 is the critical resistance zone for today’s move.
Be careful out there.