EUR

On Draghi/Bernanke Duet

http://www.cityindex.co.uk/market-analysis/ashraf-laidi-blog.aspx



Ashraf

A few thoughts related to FX, ECB & Bernanke's upcoming speech.


Despite the broadening dynamics of a risk-off environment (dismal US jobs report and financing deadlock in Spain), the current rebound in EURUSD, stabilization in gold and pullback in the USD is a reflection of 3 factors:

1. Escalating expectations that QE3 is inevitable. But such reflexive moves (rising gold and falling USD) disregard the possibility that any quantitative easing from the Fed will be sterilized by sales on the shorter-maturity notes, regardless of whether MBS or US treasuries are purchased on the long end. The round of asset purchases proved that Operation Twist (sterilized purchases) was not sufficient in countering market selloff by itself.

2. Increasing expectations of coordinated intervention from G7, Troika (IMF, EU & ECB) aimed at: i) weakening the yen; ii) using EFSF funds to partially recapitalize Spanish banks; and iii) coordinated FX swaps led by the Federal Reserve.

3. Bernanke shall re-assert his dovishness this Thursday as has been hinted at by other FOMC members that Fed is willing to turn-on QE3 to help tackle market dislocation resulting from European factors.

The announcement effect may work but unsustainable. Any renewed USD decline is likely to remain a corrective move (temporary), which could last into the end of summer, before fresh flight-to-safety re-emerges on the realization that:

i) Spain will require at least EUR 250 bln in fresh capital ;
ii) Policy uncertainty in Greek austerity
iii) Fundamental erosion in the previous risk-on currencies (Further easing by Reserve Bank of Australia, reversal in Bank of Canadas path towards tightening, Cyclical shift in Kiwi).


Ashraf