USD Continues to Rally as European Concerns Persist

Summary

The USD continued to rally across the board today, as concern over the European sovereign debt crisis bolstered risk aversion and sent global equities lower.

Headlines

IMF: First Deputy Managing Director John Lipsky said that the euro has a "solid" value and that any notion that the currency is under threat is exaggerated. "Shoring up the EUR is a rather loaded phrase," Lipsky said. "The euro trades very freely all day, every day. The value is solid and it seems broadly appropriate. Sure, there are near-term concerns of one type or another," though "the notion that the euro is under threat is wildly exaggerated given what's happening in markets."

EU: ECB President Jean-Claude Trichet said "I don't believe that financial stability in the euro zone could really be called into question." Observers "are tending to underestimate the determination of governments." Trichet said the ECB can't afford to set its monetary policy to help individual countries. Asked whether the ECB pressured Ireland into accepting a bailout, Trichet told lawmakers in Brussels "we couldn't adjust our policy to take into account the situation of Ireland" or any other country.

EU: Irish Justice Minister Dermot Ahearn said that the ECB tried to force Ireland to seek a bailout earlier this month and European officials are not trying to do the same to Portugal. "Clearly there were people from outside this country who were trying to bounce us in as a sovereign state, into making an application, throwing in the towel before we had even considered it as a government," he told Irish state broadcaster RTE in an interview today. "And if you notice, they are doing the same with Portugal now." Asked about who was pressuring Ireland, he said, "quite obviously people from within the ECB."

EU: Denmark's Finance Minister Claus Hjort Frederiksen said that "the issue is not evil speculators out to attack European governments. Investors are simply acting responsibly when they reduce positions in assets that become more risky." Frederiksen added that "when I look at the crisis there is no doubt in my mind that the right solution is to join the EUR." "The euro is not the problem. It is part of the solution. The problem is the debt." "It's very difficult to be outside the euro." "I don't dare think what would've happened to some of the countries if they didn't have the support and solidarity the euro membership implies."

US: Minneapolis Fed President Narayana Kocherlakota said the decision to engage in further quantitative easy "is a move in the right direction." In response to audience questions after his speech, Kocherlakota said that some buildup of inflation expectations is "a good thing," and that some bankers are seeing "inadequate loan demand."

US: The Conference Board's Index of consumer confidence rose to 54.1 in November from a revised 49.9 in October, on consensus expectations of 53.0. Historical revisions did little to offset the report's positive surprise, with October revised to 49.9 from 50.2. The present situation component rose to 24.0 in November from 23.5 in October, while the future expectation component surged to 74.2 from 67.5. The present situation reading of 24.0 is only nominally higher than the record low of 20.20 seen in December 2009, and remains a third of the level seen immediately before the Lehman crisis. By contrast, the future expectation reading of 74.2 compares to a record low of 27.30 in February 2009 and stands over 50% higher than immediately before the Lehman crisis.

South Africa: SARB Governor Gill Marcus said that the central bank sees more "definite" signs of a recovery in consumer spending and the prospect of further interest-rate cuts is "limited." Marcus added that "as we signaled in our most recent meeting, the room for further rate cuts is limited by the fact that we are now seeing more definite signs of a sustained recovery in household consumption expenditure and domestic credit extensions."

Brazil: Finance Minister Guide Mantega said that the BRL is trading at a "reasonable" level as the European debt crisis brings a temporary "truce" to the global currency war. Mantega said the government will take additional steps if necessary to prevent the real from strengthening and protect producers from foreign competitions. The currency war will only end once the economies of rich nations recover, said Mantega. "I won't say the result is satisfactory, but it is reasonable" Mantega said in an interview in Brasilia when asked about the currency's value. "The currency war has reached a truce now because of the worsening of Europe's problems. If needed, Brazil will do more."

Dow 11,006.02, -0.4%; NYMEX Crude Oil $84.04, -2.0%

The USD continued to rally across the board today, as concern over the European sovereign debt crisis bolstered risk aversion and sent global equities lower. The EUR/USD fell as low as 1.2969 from an overnight high of 1.3150, before trading back to 1.2985 by the close. Separately, GBP/USD fell as low as 1.5485 from an overnight high of 1.5575, before rallying to a session high of 1.5569 by 11am EST and trading back to 1.5555 by the close. The JPY showed some signs of independent strength today, as USD/JPY fell as low as 83.43 from an overnight high of 84.32, trading back to 83.70 by the close. The JPY crosses showed sizable moves, with AUD/JPY falling to 79.84 from a high of 81.38, trading back to 80.15 by the close. USD/CAD rallied as high as 1.0287 by 9:00am EST from an overnight low of 1.0171 following worse than expected Canadian GDP data, before trading back to 1.0265 by the close. Risk aversion sent global bourses down across the board, with the Japanese Nikkei down -1.9%, the French CAC down -0.7% and the UK FTSE down -0.4%. However, early triple-digit losses in the Dow reversed course in the afternoon, with the DJIA closing off only -0.4% on the day. Among the commodity markets, precious metals rallied while crude oil fell. Silver gained 3.2%, gold gained 1.3%, while NYMEX crude oil prices lost -2.0% on the day to close at $84.04/bbl.

The consumer confidence report was released at the same time as the Milwaukee NAPM (59.0 on expectations of 57.5) and following the Chicago PMI (62.5 on expectations of 59.9). However, the upbeat US data did not appear to have much impact in foreign exchange markets. The EUR/USD fell to a session low of 1.2969 at 8:30am EST ahead of the data from an overnight high of 1.3150, before rebounding back to 1.3030 following the releases. Similarly, GBP/USD bottomed at 1.5485 at 8.40am before surging to a session high of 1.5596 following the data at 11am. Elsewhere, USD/JPY fell to a session low of 83.43 by 9:00am from an overnight high of 84.32, before trading back to 83.60 by 11am. Some of the larger moves overnight were in the JOY crosses, with EUR/JPY falling -2.1% to 108.35 by 9:25am from an overnight high of 110.69 and AUD/JPY falling -1.9% to 79.84 by 9:00am from an overnight high of 81.38. This month's selloff in the EUR has been driven in part by rising concerns about the European sovereign debt crisis. However, it has also been driven by a global decline in risk appetite as well as a seasonal repatriation of assets - paralleling a pattern seen late last year. While history never repeats itself exactly, this year's developments in Ireland and North Korean appear to be prompting a similar market reaction as last year's developments in Greece and Dubai. Namely, investors are closing their books early for the year to book profit, and moving cash into the safe-haven USD. If last year is any guide, the USD has further to rally. (michael.woolfolk@bnymellon.com)

Flow Analysis:

Our iFlow FX indicators show the US dollar continues to be the strongest net bought amongst developed market currencies with a further acceleration in the pace of buying since last week. Not only is the greenback benefiting from heightened risk aversion, but this morning's spate of above consensus readings on US data releases for November including consumer confidence and the Chicago Purchasing Manager index, have proven supportive for the US dollar. On the flip side, we are seeing a stronger pace of net outflows from the Euro as it remains beleaguered by ongoing concerns about sovereign debt burdens within the Eurozone, which is consistent with a further slide in EUR/USD to below 1.30 for the first time in 10 weeks.

Indeed, our iFlow bond indicators confirm that within the Eurozone, Italian fixed income instruments are the strongest net sold while Spanish and Portuguese paper is also out of favor. In fact, we are also seeing net selling of debt instruments in Finland, Belgium, Greece, Austria, France and the Netherlands amid regional contagion fears. German bunds continue to prove to be the region's oasis as bond portfolio managers re-allocate their Euro-denominated positions and seek their relative safety and liquidity. Elsewhere amongst G-10 currencies, our iFlow FX indicators show especially the Swiss franc and also the Japanese yen being net bought in recent trading sessions as they benefit from the pullback in risk appetite – this is consistent with price action that has seen EUR/CHF and EUR/JPY post steep declines from last week's levels. EUR/JPY is also being pressured by renewed concerns about global growth as Chinese policy makers take more measures such as further raising bank reserve requirements to curb overheated sectors in the Chinese economy.

In the present bout of risk aversion, the extent of the Euro's woes can be gauged by the observation that even though Sterling also usually suffers during periods of risk aversion, relative FX flows in the EUR and GBP have favored the latter in the past two weeks, which is in line with the decline in even EUR/GBP to 0.8352 thus far this morning from levels above 0.88 at the beginning of the month. In the same vein, even though the Hungarian forint has been out of favor and HUF-denominated bonds are being net sold as the ongoing row between the central bank and the government undermines investor confidence, the HUF has managed to eke out some gains vs the Euro today. Amongst global stock markets, our iFlow equity indicators confirm strong net selling of South Korean exposure, which is also weighing on the local currency amid simmering tensions on the Korean peninsula.
(samarjit.shankar@bnymellon.com)