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Friday, 16 September 2011 08:44

Liquidity Measures Are Not A Long-Term Solution For Europe

News and Events:

The announcement yesterday that the ECB, BoE, SNB, and BoJ were opening dollar swap lines with the Fed has had an enormously positive impact on risk appetite, with equity markets posting solid gains, and financial stocks in particular managing to pare back a decent chunk of their recent losses. The provision of plentiful dollar loans covering the year’s end should enable the banking sector to avoid a desperate scramble for USD as the funding markets seize up – a scenario which we have seen all too often in times of stress over the past couple of years. This is especially judicious considering the recent turmoil in financials over the past few weeks; the erosion of confidence has been exemplified by Moody’s recent downgrade of French banks, and the situation was not helped at all by the recent revelations of $2bn losses at UBS related to rogue trading and failed risk management mechanisms. Whilst investors are right to feel some sense of relief that a funding crunch is less likely in the next few months, the liquidity measures provided by these central banks is really only a short-term patch to alleviate the symptoms of the crisis, not a solution that targets the roots causes. Underneath the issues of interbank lending, the reason there is unwillingness to lend in the first place still remains at large. At present, there is a simmering fear about which banks are saddled with risky sovereign debt, and whether a potential Greek default will spark another Lehman-style fallout on an even bigger scale. Until Europe can get the spiralling Greek situation under control and convince markets that contagion is not a risk, it will be very hard to get us out of this predicament where central banks are relied upon to rescue institutions feeling the squeeze – a dynamic that is unsustainable long-term. Looking at this afternoon’s economic calendar there are very few significant releases expected, with only US net TIC flow data and U. Michigan consumer confidence scheduled. Given yesterday’s very poor US data which featured an unappetizing combo of higher jobless numbers, weaker manufacturing and higher inflation, we doubt that the U. Michigan survey will be all that impressive (expectations are for 57.0 after last month’s 55.7). Nevertheless, there are still some event risks possible today, with the most nervous energy surrounding whether Moody’s will announce a downgrade of Italy’s sovereign credit rating. It was exactly 3 months ago today that the ratings agency put the country’s Aa2 rating on negative watch, and so today is when we would expect the conclusions of their review to become known. Arguably the market has already priced in a downgrade, as demonstrated by the fact that when the review was announced 3 month ago, 5yr Italian CDS were trading around 190bps whereas they are now trading around 440-450bps (having been above 500bps in the past week). Even so, a downgrade to Italy would certainly end the week on a sour note and equity markets might not be able to sustain their buoyancy into the weekend with that kind of news.

Advanced Currency Markets - Forex Issues and Risks

Today Key Issues:

  • 13:00 USD Net long-term TIC flows, $ bn Jul; exp: 30.0, prev: 3.7
  • 13:55 USD U.Michigan consumer sentiment index Sep; exp: 57.0, prev: 55.7

The Risk Today:

EurUsd EURUSD got a big boost from yesterday’s liquidity announcement, with the pair surging to a high of 1.3937 – identical to the peak on 9 Sep. We have now abandoned the bearish flag pattern on the hourly chart (pattern was never activated so no trade initiated), however this rally has not yet become so far entrenched that another downturn can be ruled out. Key levels to watch on the topside now are 1.3937 (9 &15 Sep high), 1.4023 (50% Fibonacci retracement of the sell-off 1.4549 to 1.3496), and 1.4148 (7 Sep high and 61.8% Fibo level of that same sell-off). Should the bears return (after all, liquidity measures are only a band aid solution to the deeper issues in the financial market), the next technical levels below are noted at 1.3704 (15 Sep low), 1.3558 (13 Sep low), 1.3496 (12 Sep low), 1.3461 (15 Feb low), and 1.3428 (14 Feb low).

GbpUsd GBPUSD has barely managed to rally in the past 24 hours, in spite of the gains made by EURUSD in that same timeframe. Instead, we are currently trading around 1.5770 levels, and look likely to slump lower as the 3-week downtrend channel is expected to re-exert its influence. The previous low in this downtrend is 1.5707 (seen on 14 Sep), so that will be the first level to challenge on the downside, then we expect some weak demand to materialize ahead of the channel’s lower trend line (currently 1.5605-15). Below there is a long plunge until next support at 1.5513 (11 Jan low) and 1.5476 (10 Jan low). First resistance on the topside is now 1.5880-90, a zone which contains not only the upper edge of the current downtrend channel, but also 1.5886 (12 Sep high). A break above there would signal a reversal may be on the cards, and next targets above would be 1.5991 (9 Sep high), 1.6000 (psychological barrier,) 1.6083 (8 Sep high), 1.6127 (200-day moving average) and 1.6206 (6 Sep high).

UsdJpy USDJPY experienced a sharp spike higher yesterday afternoon, as the announcement of coordinated central bank liquidity offerings sent us up to a high of 77.32. The excitement was however short-lived, as the pair subsequently returned to its pre-announcement 76.60-70 levels and has now resumed its sideways consolidation. A shallow downtrend channel is currently in play so our bias is that eventually the pair will drift lower. The major support zone to challenge will be 76.40-50 (multi-low support from the last week of August), and below there we’d be looking at 75.96 (the all-time low set on 19 Aug), followed by the major psychological barrier 75.00. First resistance should now appear around 77.39 (12 Sep US session high), 77.86 (9 Aug high), 78.47 (8 Aug high), and 79.42 (5 Aug high).

UsdChf Yesterday, USDCHF managed to hit a new low for the week at 0.8648 – continuing the gradual slide lower for the pair, and taking us even further away from that significant 200-day moving average above (at 0.8827). The next support eyed is 0.8540 (the post SNB intervention low), so expect good bids to step in ahead of that level. If we managed to break below there, it’s a long drop until next support (0.7820 is the 5 Sep low) so bias would probably shift to the downside. Resistance remains at 0.8940-45 (13-16 May highs), with further levels noted at 0.9012 (19 Apr high), and 0.9296 (6 Apr high).

1.4150 1.6085 78.45 0.9105
1.4000 1.5990 77.85 0.9010
1.3935 1.5885 77.40 0.8940
1.3800 1.5780 76.75 0.8740
1.3705 1.5705 76.40 0.8650
1.3560 1.5515 75.95 0.8540
1.3495 1.5475 75.00 0.8500
S: Strong, M: Minor, T: Trendline, K: Keylevel, P: Pivot
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