Overnight Sentiment: Short Squeezy
The overnight session started with broad weakness following last night's downgrade of Spain to BBB- by S&P, once again led by Egan Jones, due to fears that an outright junking by one or all rating agencies is on deck, now that the status quo means business and is hard pressed to advice Mariano Rajoy that the ECB will not be toyed with, and if need be the same tactics used to oust Silvio Berlusconi just under a year ago can be applied to Spain which is now proving very difficult to handle: all Spain needs to do to ensure at least a few more months of banker pay is to demand a bailout. And yet it remains unwilling to stick to the simple script so far. Sure enough, Spanish bond prices tumbled, as did the EURUSD. Yet sometime around 4 am Eastern, a levitation commenced across all risk assets, EURUSD, and US futures, with Spanish bonds retracing the entire earlier loss, showing that the ECB has now once again shot itself in the foot and that any attempt to recreate the same playbook as was used to remove Silvio, will be far more problematic when applied to Spain.
The primary catalyst for what is seen as a squeeze is the announcement that for the first time since September 2011, Spanish banks borrowed less from the ECB, with gross borrowings declining to EU399.9 billion, down from a record EU411.7 billion, which was to be expected in the aftermath of the earlier announced TARGET2 Spanish liability. That this decline is driven primarily by a plunge in the current account deficit as the local import industry shuts down (the export has been long gone) and with it more and more of the economy, is irrelevant. For now the flashing red headline is all that is needed to send the EURUSD nearly 80 pips from overnight lows, even more horrible economic news out of Greece notwithstanding (more on that shortly). All that matters for now is how long the short squeeze in a ultra low liquidity market will persist for.
The full overnight recap comes from Deutsche:
Asian equities are mostly lower in the overnight session not helped by a negative US lead yesterday. Bourses in China, Taiwan, and South Korea are down -0.2%, -1.7% and -1.0% respectively. Chinese equities are down for the first time in three days on weaker auto sales and new bank loan data. The Hang Seng (+0.2%) is the key outperformer overnight while the AUD ($1.0287) hit an 8-day high following a better-than-expected headline employment print. Credit indices are off the day’s wides with new issues remaining the key focus in Asia.
The EUR reached a low of 1.2826 after S&P’s Spanish rating downgrade but is now off those lows as we type at 1.2865. Elsewhere, the Bank of Korea expectedly cut its benchmark rate by 25bp to 2.75%. As mentioned above, the lack of any meaningful positive catalyst saw markets endured another risk-off session yesterday. The S&P 500 finished the day -0.62% lower, not helped by Alcoa’s downbeat outlook on demand and Chevron’s Q3 profit warning as it expects substantially lower earnings than Q2. US credit indices stood firm and were only moderately wider despite the broader market tone.
In Europe main bourses were lower across the board led by the weakness in Spain (IBEX -1.00%). Peripheral bond yields were little changed yesterday though. A joint press conference following the meeting of Monsieur Hollande and Rajoy revealed little news and shed no light as to whether Spain is edging closer to a bailout request. We had some firmer European data flow yesterday with French (+1.5% mom v -0.3% mom expected) and Italian (+1.7% mom v -0.5% mom expected) IP both rising more than market consensus in August.
Moving on to today, we have inflation reports across the euro area as well as trade data and initial jobless claims in the US. We also have a handful of Fed speakers over the next 24 hours including Raskin, Plosser and Bullard. Italy is also scheduled to sell up to EUR3.75bn in 2015 bonds and will also offer between EUR1.5-2.25bn in reopening its 2016, 2018 and 2025 bonds. The G7 finance ministers are also meeting in Tokyo today, the Spanish cabinet will meet at 9am (London time) later and Merkel will meet with EU’s Barroso in Berlin at 3pm (London time).