– Majors in tight ranges, Asia currencies up 0.4-1.7%
– EU leaders delivered a better than expected agreement
– A weak German Ifo may weigh on EURUSD recovery
– Canadian CPI inflation to restrain BoC tightening expectations
What to watch for today
EUR: Steady Ifo. Our economists expect a range bound German Ifo reading, at odds with the recent deterioration in regional PMIs. A downside surprise would leave markets vulnerable to some retracement of the gains in EURUSD over the past 24 hours, in our view.
CAD: Inflation pullback. Our economists forecast a pullback in both headline and core inflation today, with the former falling from 0.7%mom to -0.1%mom and the latter softening from 0.5%mom to 0.1%mom. The data should keep Bank of Canada tightening expectations in check despite the more hawkish tone for the Bank this week. We continue to see little scope for additional USDCAD downside below 0.95.
What happened overnight
The agreement produced yesterday by European leaders delivered measures at the high end of our own and market expectations, closer to the best case scenario that we identified in our preview piece on Wednesday. The key features were in line with those of the draft released earlier in the day. Importantly, the agreement includes plans for an enhanced EFSF role, with bank recapitalization loans and secondary market intervention allowed for non-program countries. Ireland and Portugal have also been granted the same maturity and interest rate adjustments offered to Greece, even as PSI has been ruled out for them. Our European economic team argues in their latest report that this plan not only addresses Greece, but it also seems capable of containing contagion to other European sovereigns.
What next? The private sector involvement is nominally voluntary but could still result in a selective default rating being assigned by the ratings agencies. The EU’s gamble is that the measures taken to assist other peripheral borrowers and to ensure continued access to the ECB repo window for Greek banks will mean that there will not be contagion from such a declaration. This may well be correct, but real money investor flows in Italian government bonds over the next few days will determine whether systemic fears have been fully laid to rest here. In terms of criticism, markets might focus on the fact that the EFSF’s size does not appear to have been increased further, despite its larger mandate. Finally, we note that language in the draft concerning a potential “Marshall plan” has been toned down considerably.
– The dollar has consolidated in the Asian session. Most currency pairs are trading in relatively tight ranges and front-end currency implied vols and risk reversals have softened. EURUSD fell from the 1.4437 high in late NY trading to around 1.438. AUDUSD has been stable around 1.084, while the SEK has outperformed, with EURSEK falling to 9.063. We remain of the view that the SEK is our preferred currency to trade a recovery in risk sentiment coming out of the summer (Strategy Snapshot: Don’t Go Away, 20 July 2011).
– Appreciation of Asian currencies has, once again, been tampered by intervention by central banks. We understand that the BoK and MAS may have been buying USDKRW and USDSGD around 1,050 and 1.21, respectively. The MYR and PHP, which were lagging in June, have outperformed other Asian currencies. We think that the Philippines central bank (BSP) may have allowed a catch-up in the peso, which saw the PHP nominal effective exchange rate recover to flat from May, partly to curb imported inflation due to the spike in rice prices from feeding into headline CPI. We don’t think that the BSP will allow PHP outperformance unless we see a further surge in rice prices or a recovery in the exports. Asian equities are up 0.4-1.7% on the back of the rally in US equities overnight.
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Credit Suisse
FIXED INCOME RESEARCH & ANALYTICS