World First Morning Update 27th October 2011: Deal or Not Quite the Deal?

The summit has ended, and where do we stand? Well, European politicians, especially the “Merkozy double act” have gone further than most market participants expected with a fair few “agreements in principle” on bank recapitalisation and expansion of the EFSF but the market will need figures soon, and viable figures at that, if they are to take this overnight rally any higher. This move higher in equity markets and the euro has all the hallmarks of an “Emperor’s New Clothes” rally; the masses jump into a moving market and will exit unless the dream is kept alive. If someone dares to point out that we still are in the dark as to how to leverage the EFSF and that a leveraged number of EUR 1 trillion is woefully short of where it needs to be, then markets along with the Emperor’s fictitious clothes are likely to fall to the floor.

The risks to this agreement and the good sentiment surrounding the markets at the moment are the rating agencies and France is where they will be focused. Moody’s put Societe Generale, BNP Paribas and Credit Agricole on review for a potential downgrade in mid-September. The losses on Greek debt will be the catalyst for ratings downgrades to these banks and it will naturally follow through to the French state losing its AAA rating.

To give them European leaders their dues they have made a good deal of progress. The 50% haircut on Greek debt looks to be going ahead with this reducing Greek total debt to 120% of GDP by 2020. This seems to be the main driver of the “risk on” movement in the EUR/USD and GBP/USD crosses alongside the news that China is being touted for further investment into the European Financial Stability Facility with President Sarkozy due to speak to President Hu Jintao later today on the matter.

Yesterday’s European session was broadly pretty quiet until early afternoon as tapebombs from the Bundestag started to hit the news wires. Firstly we saw that the German parliament vote to approve plans to leverage the European Financial Stability Facility which stipulated that the EFSF cannot be financed by the ECB and that the ECB should no longer need to buy bonds in the secondary market given the EFSF’s enhanced powers.

FX crosses are likely to stay whippy in the short term but have remained in recent ranges which suggests that traders need more to push the euro any higher. With EU President Van Rompuy and EC President Barroso scheduled to speak to the European Parliament from 09:30 BST about the conclusions of the EU summit, we will see further volatility over the course of the morning session.

Data will probably take a back seat this morning as markets still get their heads together as to what they think of the EU summit. Even so, we have Eurozone consumer confidence at 10am which is likely to be confirmed at its lowest level since August 2009 and CBI reported sales from the UK which is the first significant release detailing UK consumer activity for October at 11am.

Latest exchange rates at time of writing