14th of December 2011 - Fundamental Forex Market Overview

DAILY MARKET COMMENTARY
14 December 2011 – 8:00 GMT
Wednesday

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Market Analysis Desk
Foreign Exchange Research: www.fibosignals.com/5585/resources.html
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FUNDAMENTAL ANALYSIS at 0800 GMT

USD
The euro's slide south continued overnight amid fresh doubts over the summit's results and implementation strategy. While a headline that the German Chancellor was ruling out raising the upper limits of ESM funding (according to coalition sources) led to some selling, the move was largely option barrier and stop-loss related initially. The news itself is not new but underscored just one of the many aspects of the deal which remains of concern to market. The second problem is more immediate, as the governments which have signed up to the plan are now expressing doubts over the ratification process and whether parliamentary backing could be secured. This threatens a drawn-out process for fiscal consolidation which markets may not have much appetite for.

The rebound in periphery bond yields yesterday is a clear sign of such risks, especially has more downgrades loom across Europe. A second wave of selling came with a disappointing reaction to the FOMC's statement, which contained very little new information and certainly no sign of new easing. Despite speculation of significant changes in communications strategy, the statement merely repeated that "exceptionally low" rates will last through to at least mid-2013. Our US economists note that there was a small change to the wording on inflation; they now say "Inflation has moderated since earlier in the year, and longer-term inflation expectations have remained stable" compared with the previous statement that said inflation "appears to have moderated". Ahead today, Norges Bank will meet to set it's policy rate and the market consensus is for a 25bp cut. While the decision will be close, the ECB's move last week, along with a deterioration in Norwegian data may be enough to sway the decision. External forces have also deteriorated significantly since the last meeting, which will be one of the main points of discussion by Governor Olsen. EURUSD traded 1.3016-1.3052 and USDJPY 77.94-78.04.

EUR
The euro came under heavy pressure once again in the European session. While a headline that the German Chancellor was ruling out raising the upper limits of ESM funding (according to coalition sources) led to some selling, the move was largely option barrier and stop-loss related. The news itself is not new and Merkel has previously voiced her opposition on this subject. This move spilled over into other markets however and sentiment quickly moved back risk averse territory.

The issue of Greek PSI appears to be in trouble once again. Dow Jones reported that the Greek government and private creditors continue to disagree on the proposed 50% bond haircut and it is tough to see how a 90% participation rate will be achieved. The exclusion of PSI in any future bailout was in itself an implicit admission that the PSI idea does not work well, in our view.

EU and IMF officials will meet with Greek Prime Minister Papademos on December 16 as part of the next review. The outcome of this review will be significant, with several large redemptions due in Greece in Q1.

The Bundesbank gave some clarity on the IMF potential agreement. In a letter to the German finance ministry, it said that it is only prepared to provide a bilateral credit line to the IMF if the IMF directly asks for it, and this could only be used by the IMF's General Resources Account. The maximum size would bt EUR 45 bn which would be offered provided that other states make their contributions.

The EFSF sold 1.97 bn euros of new 3-month bills with a bid to cover ratio of 3.2 at an average yield of 0.2222%. Overall it can be viewed as reasonably successful. Similarly, a Spanish auction was well received, where a total of just under 5 bn euros of 12 and 18-month bills were taken by the market. Sources noted that Japan bought about EUR260m of the debt sale, around 13% of total. This was slightly higher than their reported take-up of 10% for the last EFSF bond auction.

German Chancellor Merkel will give a statement to the German parliament tomorrow on the fiscal compact.

Eurozone industrial production is due today, markets are looking for a 2.0% sequential decline in October.
GBP
November CPI came in at +4.8% y/y in November from +5.0% y/y in October, inline with forecasts. The RPI reading was 5.2%, from October's 5.4%. The ONS reported that the biggest downward pressures on inflation came from food (+4.0% y/y, from +5.0% y/y in October); transport (+7.2% from 7.7%); clothing (+2.8% from 3.6%); furniture (5.0% from 5.7%). The biggest upward influences were from alcohol & tobacco, +9.7% from +9.1%.

Our analysts note that this inflation data is unlikely to have any material impact on monetary policy. The MPC expects inflation to fall sharply next year once the effects of energy cost increases and the VAT effect drop out of the comparison.

BoE MPC member Spencer Dale noted that there is scope to increase the bond buying program if nececssary. He said inflation will fall sharply in 2012 and will be below 3% in March next year. He said the Eurozone's crisis is casting a shadow over UK prospects in 2012. Near-term growth has weakened very materially, and funding constraints could lead to tighter credit conditions.

CHF
Swiss PPI is due today, in the last key data print before the December policy assessment. We and the market are looking for a 0.2%m/m decline, in a further sign of escalation in deflation risks.


A. White
Analyst at Fibosignals.com


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