EURUSD rally continues as Paris and Madrid pass auction test
Solid bond auctions from France and Spain helped consolidate the rally in risky assets, sparked by IMF calls to expand its firepower, and pushed the euro to fresh highs – while talk circulated that the SNB had been active in the options market.
• IMF asks members for $500 billion to take its lending capacity to $1 trillion
• Asian stocks rally 1% overnight, European equities at five-month highs ; S&P 500 has recorded strongest start to the year since 1987, Asian MSCI best start ever
• Average yield on Spain’s 10-year debt auction falls to 5.403%, from 6.975% at last sale. Bit to cover ratio up to 2.2 from 1.5
• France sells €2.96 billion of 2014 notes at an average rate of 1.05%, down from 1.58% at the previous auction in October
• Australian employment well below expectations, dropping 29,300 against calls for rise of 10,000
• New Zealand CPI drops 0.3% in fourth quarter, confounding expectations for 0.4% rise
Market reaction and flows
The dollar’s losses against high-beta currencies gained momentum on growing optimism over global growth. Risk sensitive BRL, MXN and NZD have been the best performers since the start of the year on hopes that the world’s financial system has pulled back from the brink.
Feeding investor confidence have been reports that the IMF is seeking funding to boost its lending firepower to $1 trillion, though doubts remain it will be able to reach that target (see What to look, for below).
Also boosting sentiment has been a string of improving US economic data. In that regard, US initial claims are likely to be closely watched on Thursday for any signs of deterioration in the jobs market.
EURUSD continued its climb as investors abandoned short positions, and hopes for a deal between Greece and its bondholders, and news of the IMF seeking fresh funds, alleviated some concerns over eurozone sovereign debt.
Solid demand and falling yields at French and Spanish debt sales also supported the euro.
Sovereign bids were seen around the $1.2850 level, helping EURUSD to test resistance around $1.2880 and test fresh highs around $1.2900.
Technical analysts at Société Générale note that a break higher through current levels could trigger an extension of the corrective rally that started at $1.2620 on Monday.
“We cannot rule out a rise back to the $1.3075/85 resistance area, or even to the $1.3195/1.3210 region before EURSD points back towards $1.2600,” they state.
USDJPY mired in a tight range around Y76.70, with bid noted around the Y76.50 region, but JPY was under pressure elsewhere amid improving risk sentiment. MoF data showing declining foreign appetite for Japanese assets helped EURJPY buying accelerate towards the Y99.00 region.
EURCHF found support from European and Swiss buyers around SFr1.2070, though gains were limited as USDCHF lost ground.
The theme remains a tussle between EURCHF sellers looking to test the Swiss National Bank’s resolve to enforce its SFr1.20 floor and those betting on further intervention from the central bank.
Some reports suggested the SNB was active in the options market as part of its efforts to defend its floor, with talk that there were large option barriers at SFr1.2050, which could explain the significant support in EURCHF around SFr1.2060.
GBPUSD benefited from the weaker tone in the dollar despite figures showing falling UK consumer confidence, consolidating its gains above $1.54 on talk of continued demand for gilts from overseas investors.
AUDUSD dropped from $1.0430 before finding support around $1.0380 after Australian jobs data disappointed. That marked the third session that AUDUSD has failed to break significantly higher through its 200-day moving average around $1.0420.
Similarly, a surprise drop in New Zealand consumer price inflation saw NZDUSD fail to break higher through its 200-day moving average around $0.8340.
Selling pressure intensified as front-end vols headed lower globally given the muted action in spot markets.
EURUSD one-month vol fell to 11.5 from 12.1 on Wednesday, approaching the support level seen in July. One-month vols fell by half a point on average across G10 crosses, taking most of them to their lowest levels since the summer.
Despite generally upbeat sentiment, BNY Mellon’s iFlow indicator shows real-money investors are modest sellers of the euro.
Samarjit Shankar, strategist at BNY Mellon, suggests investors are wary of the negotiations related to Greece’s solvency issues and appear to be viewing the single currency’s slight recovery in recent trading sessions as a chance to establish short positions.
“Portfolio managers remain concerned about the structural issues afflicting the eurozone, and the impact the requisite fiscal consolidation and elevated borrowing costs will have on the regional economy in the coming months and years,” he says.
What to look for: IMF will struggle to hit $1 trillion lending target
Financial markets enjoyed a lift after reports emerged that the IMF wanted to increase its lendable resources to $1 trillion and would push for more funds at the G20 meeting in Mexico City on February 25/26.
Chris Turner, head of FX strategy at ING, says that given the IMF now has $387 billion at its disposal, an increase to $1 trillion is quite a challenge.
“While the eurozone has already offered US$200 billion towards this total, it is very hard to see where the rest of the money is going to come from,” he says.
Turner says, at most, BRIC nations could contribute another $50 billion to IMF resources, but $200- $300 billion coming from oil exporters looks fanciful.
“If equity markets continue to rally through to the end of February, we doubt IMF resources will have had anything to do with it,” he says.