Weekly Review and Outlook
Euro to Extend Rally as EU Boosted Firewall to EUR 800b
The major theme last week was buy European majors, sell commodity currencies. Euro was firm on anticipation of the finance ministers meeting during the weekend and on expectation that there would be a final agreement on boosting the firepower of Eurozone's bailout funds. Such expectation was fulfilled as EU finance ministers concluded the meeting by raising the ceiling of the combined lending power of ESM and EFSF to EUR 800b. On the other hand, commodity currencies, in particular Aussie, was pressured on concern of slow down in China. US dollar was mixed as equities consolidated while treasury yield dipped for most of the week. Fiscal year end repatriation balanced selling pressure in the Japanese yen and most yen crosses were stuck in range last week.
Our view on long European/commodity crosses was correct last week as as GBP/AUD, AUD/CHF and EUR/AUD occupied the top three positions in the top movers table. The bias is still there and we'd continue to favor stronger rise in EUR/AUD and GBP/AUD this week. In particular, EUR/AUD could break through 1.3 psychological level as reaction to the Eurozone finance meeting news. Buying in EUR/AUD could intensify if the official Chinese manufacturing PMI to be released on Sunday dipped below 50. Though, we'll hold back on this view if the Chinese data beat expectation and would assess the outlook again after the week starts.
We also mentioned last week that we favored short in commodity/yen crosses. Such a strategy wasn't fruitful last week as repatriation buy in yen was not strong enough. We anticipated a slightly deeper pull back in yen crosses but that didn't happen. Indeed, the tide seemed to be turning to yen shorts against. Technically, we should note that most yen crosses seemed to have completed a three wave consolidation on Thursday or Friday and we'd possibly likely seen upside breakout this week. In addition, we should note the strong rebound in US treasury yield on Friday, which could also mark completion of recent pull back. 2.3% in 10 year US yield will be watched this week and if broken, stronger selloff in the Japanese yen would likely be seen. Anything other than commodity currencies against yen would be favored. That is, we would prefer long in USD/JPY, EUR/JPY and GBP/JPY. Though, considering the above strategy of long EUR/AUD, GBP/AUD etc, we're slightly prefer long in USD/JPY this week as a hedge.
After the meeting in Copenhagen, Eurozone finance ministers have agreed to mobilize an "overall firewall" of approximately EUR 800b, more than USD 1T. The detail of the program is that before July 2012, EFSF is the main instrument. After July 2012, ESM is the main instrument and EFSF will only continue to program that has already started. But during the the transitional period between July 2012 and mid-2013, EFSF can still engage in new programs to "ensure a full fresh lending capacity" of EUR 500n. And the overall ceiling of ESM/EFSF will be raised to EUR 700b even after mid-2013, as programs started by then would continue. In addition to the mentioned EUR 700b, EUR 59b out of EFSF and EUR 53b out of the bilateral Greek loan facility has already be paid. So altogether, the total is around EUR 800b.
Besides, EU finance ministers also agreed to accelerate the make available the paid-in capital of the ESM. Two tranches of capital will be paid in 2012, one in July and one by October. Another two tranche will be paid in 2013 and the fourth tranche will be paid in 1H 2014. And to maintain a 15 ratio between the paid-in capital and outstanding amount of EMS issuances, the paid-in could be further accelerated.
Also, Eurozone finance ministers pledged an additional EUR 150b bilateral contributions to the IMF. IMF chief Lagarde welcomed the decisions to "strengthen the European firewall. And EU ministers now urged IMF to increase its resources by raising as much as $ 600b in April in Washington. ECB Vice President Vitor Constancio played down the significance of raising the IMF warchest to Eurozone but empathized that it's "not a specific fund or specific account for Europe" but "a recognition that in general for the world economy the IMF needs to have more resources". However, it's known that BRICS countries would only support increase in IMF resources if they are give more say. So such political development would be watched in the coming weeks.
The Week Ahead
With quarter end volatility now passed, focus will turn back to economic data to guide the risk sentiments trends. A number of important data will be released this week which starts with Chinese manufacturing PMI on Sunday. The most important data to be watched include US and UK PMIs, Aussie retail sales and trade, Canada employment and US non-farm payroll. RBA, ECB and BoE are expected to be on hold this week. FOMC will also release meeting minutes.
- Sunday: China manufacturing PMI
- Monday: Japan Tankan; Australia building approvals; Swiss retail sales, SVME PMI; UK manufacturing PMI; Eurozone unemployment; US ISM manufacturing, construction spending
- Tuesday: RBA rate decision, Australia retail sales; UK construction PMI; US factory orders, FOMC minutes
- Wednesday: Australia trade balance; UK services PMI; ECB rate decision, Eurozone retail sales; US ADP private employment, ISM services
- Thursday: Swiss CPI; BoE rate decision, UK industrial and manufacturing production; Canada building permits, employment, Ivey PMI
- Friday: US non-farm payroll
DOW engaged in sideway trading in the pass two weeks and the development indicates that recent up trend is still in progress. An upside break out could be seen this week or next to 13500 level. Possibly, current rally could eventually hit 138.2% projection of 10404 to 12284 from 11231 at 13829 before topping. And we'd at least want to see sustained trading below 13000 psychological level before considering reversal. Such development could give dollar some pressure. However, note that Aussie has somewhat decoupled from US equities and thus, European majors would possibly benefit more from further rally in US stocks.
US 10 year yield staged strong rebound on Friday with single reversal. The development argues that recent retreat is finished already. Stronger rally in $TNX would be seen this week and break of 2.287 should send yield through 2.407 towards 2.5. Such development would prompt another selloff in the Japanese yen, including rally.
Dollar index was weak last week but selling pressure was so far limited. Nonetheless, near term outlook remains bearish as fall from 80.73 is in favor to extend to 78.09 support and below. We'd prefer to see sustained trading above 55 days EMA (now at 79.37) to confirm near term reversal. Otherwise, deeper decline is expected.
EUR/AUD Weekly Outlook
EUR/AUD's rebound from 1.2132 extended further to as high as 1.2900 last week and remained firm. Initial bias remains on the upside this week for 1.2927 resistance next. Break will have larger bullish implication and should at least push for further rise to 61.8% retracement of 1.3808 to 1.2132 at 1.3168 and above. On the downside, below 1.2800 minor support will turn bias neutral and bring consolidations first. But near term outlook will remain cautiously bullish as long as 1.2623 support holds.
In the bigger picture, EUR/AUD started to show sign of medium term bottoming with mild bullish convergence condition in weekly MACD. Break of 1.2927 support turned resistance will confirm that a bottom is in place at 1.2132 and should bring stronger rebound back to 1.4 psychological level. But strong resistance would likely be seen at 23.6% retracement of 2.1127 (2008 high) to 1.2132 at 1.4255 to limit upside, at least in initial attempt. While 1.2132 is a medium term bottom, there is no indication of trend reversal yet and EUR/AUD is possibly just developing into sideway pattern between 1.21 and 1.43.
In the longer term picture, current development suggest that the overdue rebound could be happening in EUR/AUD. But there is no sign of trend reversal yet. We'll stay bearish as long as 1.4261 resistance holds and expect another fall to push the cross through 1.2 psychological level eventually.
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