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Will Bernanke deliver on this market’s expectations?
Publication date: 19 June 2012
Author: John J Hardy, Saxo Bank
This market is ready to twist in shout ahead of tomorrow’s FOMC meeting and anticipation of the extension of the Fed’s easing. Tomorrow may set the tone for some time to come.
So far it is indeed déjà vu all over again this week with the EURUSD’s kneejerk positive opening on Monday yielding first to a sharp sell-off and then complete indifference and even a rally. Of course, last week didn’t feature an FOMC meeting, which we have on tap for tomorrow. This will provide the pivot point for whether we’re off to the QE races for another all-hail-easy-Ben rally or if this proves merely an epic squeeze within an overall bear market for risk assets.
In Europe, Spanish bond yields edged slightly lower, with Italian yields following suit and edging back below the 6.0% level. Statements from Greek politicians indicate indeed that New Democracy and PASOK are looking to form a coalition and will seek new terms for the bailout deal. The G20 noises have added a bit to the overall risk-positive environment here, as new funds were pledged to the IMF to help keep the world’s financial zombies alive to stay un-dead for at least a while longer. Much of the G20 noise also focused on some kind of EMU-wide deposit insurance scheme aimed at stopping the risks from bank runs and capital flight from the periphery. All in all, it was a great day to enjoy at least a half full glass from the punchbowl.
Odds and ends
Aussie jumped to new 6-week highs on the general trends in risk appetite and either anticipation of Fed easing tomorrow or squeezing of stale Aussie shorts on the same. There was hardly anything in the RBA minutes overnight to generate today’s buying, as Australian STIRs generally ticked higher today. As I covered earlier today, AUDUSD is now in a key resistance zone ahead of the old 1.0225 lows and the 200-day moving average slightly higher. From an interest rate spread perspective, the last few days of AUDUSUD upside have not been supported by a widening of the spread, which is below the top of the range of the last couple of weeks.
After an impressive surge earlier this year, the German ZEW survey is fast reversing course, with June’s reading out at a stunning -16.9 vs. +2.3 expected and +10.8 in May. No, this is not nearly as bad as the -50 and rose readings we got last November and December, but the speed of the reversal is whiplash inducing. At times, the ZEW survey has been an excellent leading indicator, at other times not so much so. Let’s look for a strongly negative IFO surprise on Friday for firmer confirmation that confidence is fast coming unglued in Germany, with the preliminary Services and Manufacturing (most important) out Thursday as well. The latter dropped to almost its worst reading in 3 years in May.
The UK inflation data and the recent BoE easing announcement is likely to keep GBP weak in the crosses (not against USD and JPY, however…) if this risk rally continues, as EURGP eased back higher on the day after yesterday’s post-Greek election spike-then-revulsion act.
This market really wants to twist and shout in anticipation of a Fed move to expand its Operation Twist at tomorrow’s Fed meeting, and Bernanke and/or the new FOMC statement may even provide juicy hints about the endless rivers of QE gravy just around the corner. And who knows – with the right message from the Fed, there may be enough short term positioning out there for a further squeeze on the “right” message from the Fed and then some. But the cycles are shortening with every round of stimulus – by my very rough estimation, we saw about 14 months for QE1 from bottom to top, about 10 months for QE2, and about 6 months for Operation Twist. So even if my anticipation that this cycle of risk aversion is not over with proves wrong, the upside may only last until the other side of this summer (to around October 1 assuming the diminishing return timing remains relatively consistent).
So again, tomorrow’s FOMC may act as the pivot for whether we continue to ride a risk-on bonanza for some time or whether the cycles are finally changing and the market gets caught wrong footed in its anticipation of what the Fed will do, or how we should all respond if it gets what it wants. In addition, before putting too much into the FOMC outcome, we must remember the constant ad hoc risks from the EU situation.
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