ESM loans will not have preferred creditor status

Publication date: 29 June 2012
Author: Richard Driver, CaxtonFX

The euro rallied last night on the unexpected news from the EU Summit that European Stability Mechanism loans to Spanish banks will not have preferred creditor status. Indications were also made that the rescue funds could be used to stabilise bond market and that a supervisory body for eurozone banks would be created, which would be able to recapitalise banks directly without adding to sovereign debt. These reports, if accurate, exceed expectations and have been taken positively by the markets.

Today’s session is likely again to be dominated by noises out of the EU Summit and based on the news overnight, it could be a positive end to the week in the financial markets.

STERLING/EURO: The euro rallied last night as EU Summit reports indicate some rare points of progress.

• Some of the significant question marks that surrounded the Spanish bank bailout and weighed on the euro this week appear to have been answered in positive fashion. With ESM loans not taking senior creditor status, investors concerns surrounding unpaid Spanish debt eased. In addition, the news that banks will be directly recapitalised, thereby avoiding an increase of countries’ debt-to-GDP ratio, has also been gladly received.

• This pair is trading down at €1.2425 and sterling may edge higher today despite the positive news from the EU Summit.

STERLING/US DOLLAR: Sterling followed the euro higher against the US dollar as global stocks boom.

• Equities took a major jump higher in Asia last night and Europe is following suit this morning. With expectations for progress at the EU Summit so low, the collection of decisions that seem to have emerged have lifted sentiment enormously. Pressures should ease in the bond markets as a result of the decisions to allow direct recapitalisation of banks and for those ESM loans not to take senior creditor status.

• Sterling is trading up at $1.5650 this morning which looks a very good level at which to buy US dollars.

EURO/US DOLLAR: Some major progress comes out of the eurozone but resistance is met at $1.26.

• After threatening another retest of its June 1st lows, EUR/USD is trading almost two cents higher than yesterday’s lows. The FTSE 100 has opened 1.5% higher this morning, but the euro may have made all the gains it is going to on last night’s news. All eyes will remain on the EU Summit for further decisions, though these may emerge after European trading hours.

• This pair is trading at $1.26 this morning. The good news saw plenty of euro short-covering but this latest rally will present an attractive sell opportunity to the many remaining euro-sceptics.

STERLING/AUSTRALIAN DOLLAR: Risk appetite was given a major boost overnight and the aussie dollar rallied.

• With concerns surrounding Spain and Italy easing somewhat, the market took its chance to target higher-yielding assets like the aussie dollar. Last night’s eurozone developments also make an RBA rate cut significantly less likely next week, which is again supportive of the aussie dollar.

• Sterling is trading at fresh lows below 1.54 and sterling may struggle to find the energy for a bounce amid rallying stocks.

STERLING/NEW ZEALAND DOLLAR: After sterling had a strong session yesterday, the overnight rally in risky assets saw this pair erase its gains.

• Market positivity will invariably benefit the kiwi dollar and so it proved last night. There are plenty more headlines to come out of the eurozone as we enter the second day of the EU Summit and beyond this Sunday night’s Chinese manufacturing figure will also be very important. Clearly this figure poses a downside risk as the data looks set to reveal a seventh monthly slowdown.

• Sterling is trading at 1.96 and may continue to trade fairly softly provided fears of deadlock at the EU Summit are not renewed.

STERLING/CANADIAN DOLLAR: Typically, the loonie failed to fully capitalise on last night’s positive news and this pair is back up towards the top of its trading range.

• The loonie hasn’t yet rallied on the back of the EU Summit progress but it could well do so on the coat-tails of US equities this afternoon. 1.6050 provides plenty of resistance on the upside so it does seem likely that we will see this pair edge lower today.

• The monthly Canadian GDP figure is due out this afternoon as well and a solid 0.2% showing is expected. For now this pair trades at 1.6050 but lower levels look likely.