Intraday Market Thoughts: Greek Bonds and the EU Summit

Optimism Ahead of EU Summit, Greek Aid Approved

Markets brought a sense of optimism into the weekend after the Eurogroup endorsed the Greek aid tranche and as European leaders appear to make progress on a deal to end the sovereign crisis. On Friday, AUD and CHF were the top performers while USD lagged badly. Fridays CFTC commitment of traders report showed speculative USD longs inching higher.

Throughout the day (and the week) sentiment wavered on every headline. No one is sure of exactly what leaders will accomplish at Sundays summit, if anything, but the absence of headlines suggesting discord suggests progress is being made. Late in the trading day, Austria's finance minister said only two options to leverage the EFSF are being debated.

It was also revealed that only euro area leaders will meet on Wednesday, not all 27 EU members. This means a plan for bank recapitalization for Europe must be unveiled on Sunday.

The best concrete news of the day was euro area finance ministers approving the 8 euro aid tranche for Greece. The IMF must still endorse the deal but that could come as soon as today. This was largely expected but the news may still have given a small boost to the euro because it showed that Europe is capable of cooperation.

A troubling caveat from the troika Greek report said that at its current trajectory, Greece would need an additional 252B through 2020. This number is being used in negotiations with bondholders, who will be asked to accept haircuts of 40-60%. The report also says that Greeces debt-to-GDP can be trimmed to 120% (which is still atrocious) by 2021 with a 50% haircut.

We assert that the higher the haircut the better for the euro, so long as bondholders agree. Even with a 60% haircut, Greece would only be able to avoid default under the rosiest of outlooks, but it would stabilize the situation in the short term.

CFTC Commitment of Traders Report

The net long USD position increased by $0.4B to $15.1B. The euro fell 4K deeper into a net short position at -78K while sterling crept 9K closer to neutral at -53K. The yen remains the favourite of speculators but the net position was cut back by 8K to +30K. We imagine many of those who exited JPY longs were regretting it on Friday as USD/JPY fell to an all-time low

The commodity currencies all made gains, led by AUD which added 10K to a net +20K. NZD longs increased 1K to 8K. CAD made a slight improvement but it remains the only commodity currency in a net short position at -25K. All the data is as of the close on Tuesday.