Italian Auction Ahead
Fitch downgraded five Eurozone sovereigns on Friday night shortly after Eurozone bond markets had closed. Italy, Spain, Slovenia were cut two notches each, while Belgium and Cyprus dropped one notch apiece. The downgrades themselves were signalled weeks ago, and were expected to occur before the end of January so EURUSD continued to rally in spite of the news, eventually closing above 1.32 for the first time in seven weeks. The timing of the downgrades is unfortunate given Italy’s second BTP auction of 2012 is due to take place at approximately 1000 GMT today. However our Eurozone rates strategists expect the supply to be easily absorbed, with demand boosted by redemptions and coupon payments worth about three times the debt on offer. Brisk demand is likely to give the euro another temporary boost. The first EU summit of 2012 is due to get underway this afternoon. The objective is to finalise two texts: the new fiscal compact, and the treaty changes required to introduce the ESM rescue vehicle. Talks on the Greek bond swap made further progress over the weekend, and we expect a positive outcome in a matter of days. Despite the latest positive news flow we remain intensely cautious on the euro’s prospects in the run-up to the March 20 Greek bond redemption. Already new hurdles to a second financial rescue are appearing. Over the weekend press reports surfaced on German plans for greater surveillance over Greece’s fiscal affairs. The fact that such proposals are even under discussion indicates that official sponsors are extremely wary of Greece’s ability to bring its debt down to sustainable levels. The proposals have already met a frosty response in Greece and the controversy indicates how difficult it will be reach final agreement on the second rescue even if a bond swap deal is ultimately reached on a voluntary basis. With the euro having already rallied six big figures from the lows, we remain on alert for opportunities to enter fresh shorts. The US is due to release the core PCE report – a metric which has suddenly risen in importance after the Fed’s adoption of an inflation target based specifically on this measure.
Click here to read the full report: UBS Morning Adviser Europe
UBS Investment Bank