Pure Liquidation Grips Markets

The global financial crisis may have returned and entered a new, frightening phase as risk assets wilted on Thursday. Fear gripped markets on worries of a double-dip recession in the United States and a sovereign crisis in Europe that appears to have enveloped Spain and Italy. EURUSD 1-month volatility suggests further downside in the sport rate. Ashraf will bring those charts to Premium subscribers to the Intermarket Insights, being prepared as we speak.

If the Fed was pondering further action, policymakers must now be facing enormous pressure. If rates werent already at zero, the recent plunge in the S&P 500 would probably have forced an emergency meeting. It was the ninth-worst day in the history of the Dow and the worst since 2009 as it fell 512 points to 11383. The S&P 500 fell 60 points, or 4.78%, to 1200. It was an accelerating liquidation of stocks and commodities and a flight to bonds with currencies trapped in the middle.

The Fed does not want to do a QE3 operation that mirrors QE1 and 2. Instead, look for the central bank to begin crafting a creative plan.

The trigger on Thursday was a blowout in Spanish and Italian bonds. Rumours of a run on deposits at Italian banks after the ECB reinstated long-term refinancing operations worsened trading. The European community can afford to bail out Greece, Ireland and Portugal but the economies of Italy and Spain are far larger and a genuine borrowing crisis there is a true risk to the existence of the Eurozone.

At the same time, US growth is wilting and Japan is trapped in an endless cycle of near-zero growth. In the most simplistic terms: the US, Europe and Japan are broke and their economies arent growing.

The Swiss and Japanese have alternated attempts to devalue their currencies in the past two days but its a losing battle as deposits in Europe flee to the safety of Switzerland and the yen carry trade collapses. The CHF and USD led the market on Thursday; AUD, NZD and JPY were the laggards.

Stepping away from the fear, the volatility in markets presents incredible opportunities to short-term traders, especially in a two-way market like FX. Look for signs of panicked liquidation, keep stops tight and expect quick gains of 100-200 pips.

Economic data becomes secondary at a time like this, even non-farm payrolls will be a short-term event as sentiment, technicals and market psychology dominates.

The events in the Asia-Pacific session include the releases of the RBAs monetary policy statement at 0130 GMT. Leaders must be feeling good about opting to remain on the sidelines given the developments in markets. Positive commentary about the domestic economy is unlikely to boost AUD because policymakers made it clear they are focused on external economies.