- Eurozone optimism to be tested ahead of Sunday EU Summit
The risk rally from last week continued into the Asian session with the G20 weekend meeting promoting expectations of a concrete plans to be put in place at the EU Summit on 23 October on the leveraging of the EFSF, European bank recapitalisations and details on the extent of the private sector involvement in the second rescue package to Greece.
However, German Finance Minister Schaeuble has already dampened some of the over-optimistic expectations by cautioning that the EU Summit will not present the “final” solution to the debt crisis. Encouraging noises about bank recapitalisation notwithstanding, much work evidently remains to be done on other parts of the ‘comprehensive’ solution. Both the French and German Finance Ministers said that the haircut on PSI would have to be higher; but the IIF is pushing back. The suggestion that the ECB might provide leverage to the EFSF seems very much out of favour; the ‘insurance’ approach is instead gaining traction. But the ratings agencies have yet to share their thoughts on this arrangement: it is far from clear that the effective leverage would not lead to a downgrade of the EFSF or the guarantor nations – or both. In this respect there may still be a role for the IMF, although for the moment the developed nations are resisting calls for a further boosting of the Fund’s resources.
- EURUSD short covering rally intact but could lose some momentum
Friday’s IMM data on speculative positioning suggests there remains a speculative short base vulnerable to a further squeeze. However the data only runs through Tuesday and so does not capture the impact of the 3-big figure Wed-Fri move, (see Chart below). Assuming another sizeable amount of shorts has have already been covered, the EURUSD rally could lose some steam this week, noting critical resistance at 1.3939 (long term falling wedge) and beyond that 1.4045 (61.8% retracement of the September sell-off). That said, the bias may remain for a weaker USD this week provided US data manages to exceed pessimistic expectations- though gains may be better pursued via the AUD. Following from better than expected US retail sales last week, we have the Empire State survey and industrial production due today.
- China GDP, RBA minutes key for AUD. We remain short USDJPY.
Markets will also be keenly anticipating Tuesday’s China Q3 GDP and September industrial production, investment and retail sales numbers. If these are all seen to be holding up (real GDP expected at 9.3% y/y from 9.5% in Q2) the main consequence for G10 FX is likely to be an extension of the AUDUSD rally. RBA October meeting minutes also on Tuesday will also be important in this respect. If they fail to provide succour to current OIS pricing that still ascribes a 75% chance to a 25-point rate cut in November, AUD should rally. 1.20 may be achievable on AUDNZD this week. In Asia, USDJPY backed up to the 77.45 level (that has been capped spot on two occasions over the past week) following a WSJ report suggesting Japan may be set to unveil a further round of measures to counter the strong JPY including incentives to promote Japanese companies to take advantage of the strong yen to acquire overseas businesses and natural resources. However, the JPY price is driven by portfolio flows being fully hedged (which is influenced by low US rates). Moreover, FDI investments take much time to implement and thus any FDI outflows will only have a gradual FX impact. As such, we remain comfortable with our short USDJPY recommendation from 77.40.
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BNP Paribas
Corporate & Investment Banking