Archive - Dec 2012 - Blog entry

Markets getting back to some normality with the Periphery still recovering, although less today after the auctions, Bunds 5 wider on the week, Italy 10, but Spain 7 tighter across the curve from last Friday. Equities and Risk oblivious to that anyway and synching with the US. Getting difficult to find something crisp out there with reduced news flow and volatility. Excitement to be found in the US on FC developments, now that Greece, Spain and Italy are seemingly off the table and that the FED has moved to QE4.

"When It's Sleepy Time Down South" (Bunds 1,35% +1; Spain 5,38% +4; Stoxx 2622 -0,2%; EUR 1,308 +40)

The US dollar saw its post-FOMC losses extended only against the euro as the perhaps the passable success of the Greek bond buy-back and bank supervision deal lent support to the single currency.  

Yet, even it succumbed to selling pressure in the European morning and returned to pre-FOMC levels near $1.3040.  Against most of the other majors, the dollar has been confined to yesterday's ranges.  This is somewhat reminiscent of the price action after QE3+ was announced on Sept 13, with the dollar bottoming either that day or the following day. 

Of course, we recognize that monetary policy is one of the factors the influence foreign exchange prices.  There are factors as well.  It seems that most investors and observers look at the same variables in their formal or informal models of currency determination, but differ on the coefficients, or weights that are given to the variables, which seem to change over time. 

The accumulation of reserves is primarily limited to developing countries.  There are two notable exceptions among the high income countries. Japan, which is traditionally willing to intervene in the foreign exchange market to curb the yen's strength.  The last intervention took place in Oct-Nov 2011, when the BOJ bought over $100 bln.  

The other exception is the Switzerland, where the SNB has capped the franc against the euro, leading to something on the magnitude of tripling their reserve holdings.  

The announcement that Sweden's Riksbank will boost its reserves drew our attention.  The Riksbank currently holds about $40 bln worth of currency reserves.  It will boost it by about 37% or around $15 bln (SEK100 bln).  The reasons behind its decision is interesting and reflective of more modern thinking about currency reserves. 

The US dollar and yen remain soft.  The news stream has encouraged the so-called risk-on trade.  The Greek debt buyback appears to have gone well enough that it will get dollop of aid.  Spain reportedly received 40 bln euros of bank aid.  There seems to be a potential compromise banking supervision in Europe.  On top of that, of course, the market expects the Federal Reserve to announce an expansion of its quantitative easing later today and keep the door open to further steps if necessary. 

The dollar made new eight month highs against the yen, just shy of the JPY83 level.  These dollar gains ahead of the FOMC meeting underscores one of our interpretative points that the old drivers of dollar-yen, like interest rate differentials and general risk appetite, have broken down, trumped by Mr Abe and his aggressive monetary and fiscal rhetoric.