Europe: The Focal Point of the News on the Financial Markets

The news flow overnight continued to centre on the developments in Europe.
According to FT EU negotiators are discussing doubling the euro area’s rescue funds.

Timothy F. Geithner, US treasury secretary, said during his visit in Germany that he expects the IMF to continue to play an active role in the crisis.

Main focus today is  the French/German letter to Van Rompuy,  Geithner’s meeting with Sarkozy and the releases of German, Italian and UK industrial production data.

Markets Overnight

The news flow overnight continued to centre around the EMU debt crisis. FT
reports that EU negotiators are discussing doubling the euro  area’s rescue funds. The idea is to allow the existing EFSF (EUR440bn) to continue alongside the ESM (EUR500bn), which previously was expected to replace the EFSF in  mid-2012. This idea was also floated prior to the October summit. Further support from the IMF is mentioned as a third line of defence.

Timothy F. Geithner, US treasury secretary, stated after his meeting with Wolfgang Schäuble, German finance minister, that  he is  “very encouraged” regarding the development in Europe. Furthermore he added that “IMF has been playing an important role in the crisis so far. We expect that to continue”, see WSJ and our recent analysis IMF could attempt to build a third line of defence.

S&P put the EFSF on negative credit watch yesterday. The move followed after  15 euro area countries had been put on negative watch Monday night. S&P stated that  it might downgrade the EFSF one or two notches and that this may occur if just one of the AAA countries is downgraded.

US equity markets traded without clear direction in a session where the news flow was dominated by stories on the EMU debt crisis. The S&P 500 ended the trade up by 0.1%. The Asian stock markets are trading in positive territory this morning. Nikkei is up by 1.2% and Hang Seng by 0.9%.

US bond yields increased along with risk appetite following the FT’s story on doubling the rescue fund. 10-year yields are trading at 2.09% this morning. In FX markets EUR/USD has remained above 1.34 after market attention centred on the FT story.

Australian GDP rose 1% q/q in Q3, after growing a revised 1.4% in Q2. The numbers were better than expected (cons. 0.8%) and AUD/USD rose to 1.278.

Global Daily

Focus today: The proposal for treaty changes by German Chancellor Merkel and French President Sarkozy revealed on Monday will today be presented in closer detail in a letter sent to European Council President Van  Rompuy. US Treasury Secretary Geithner will today continue his tour-de-force in Europe in an attempt to influence the European policy makers ahead of the EU summit later this week. Geithner is scheduled to meet French President Sarkozy and French finance mister Baroin at 11:45 in Paris today. In the data calendar focus will be on October industrial production in Germany, Italy and the UK. The very strong German factory orders released yesterday suggest that German industrial production will beat the current 0.3% m/m consensus expectation substantially.

Fixed income markets:  Yesterday’s announcement from  S&P has  had limited impact and the markets are now in standby mode ahead of the ECB meeting and the EU summit. We expect relatively flat trading today. Today ECB will publish the result of the USD3m tender auction. We believe that the demand could be quite high given the recent cut in the funding cost to USD OIS +50bp and extra need for funding around year turn.

FX markets:. We expect a relatively quiet FX market today ahead of tomorrow’s
important ECB meeting, but we recommend keeping an eye on the Swiss franc. The negative inflation numbers yesterday (-0.5% y/y and core inflation down 1% y/y) certainly add to market expectations that SNB will hike its EUR/CHF 1.20 minimum target at next week’s monetary policy meeting. We share the view and see upside risks to EUR/CHF even after the move yesterday. It seems like risk appetite has returned to financial markets overnight in Asia. For clients looking for further risk appetite we would recommend long AUD positions. Note that Australian GDP rose 1.0% q/q in Q3.