The Biggest Market Headfake Ever: Is A Wholesale French Bank Liquidity Run The Sole Reason For The Euro, And S&P, Surge?

Tyler Durden's picture

Over the past two weeks, there is one simple thing that has been bugging skeptical macro observers: namely the paradox of i) just how ugly the European funding and liquidity situations have gotten, on the one hand, confirmed by the blow out in French bond yields (the French-Bund 10 year spread just hit an all time record yesterday) as well as continuing deterioration in credit spreads across core European nations, yet, on the other, ii) the euro, especially in that critical pair the EURUSD, has seen one of its most explosive rises in recent history, which as Zero Hedge pointed out yesterday, has totally decorrelated with the French-Bund spread, to which it had been firmly 'pegged' previously. As a result of ii), equity markets have surged due to legacy correlation arbs, which see Euro strength, and hence dollar weakness, as an empirical signal of equity "cheapness", which in turn leads all algos to treat a rise in the EURUSD as a buying signal. So how is it that even with the interbank liquidity situation in Europe frozen and getting worse, further keeping in mind that European banks are now expected to (or have already commenced - see yesterday's move in PrimeX) engage in widespread asset liquidations, that broad market risk is perceived as cheap? Simple. As the following note by Deutsche Bank's Alan Ruskin explains, the sole reason for the EUR (and hence S&P and global 100% correlated equity risk) surge in the past 9 days is not driven by any latent "optimism" that Europe will fix itself, but simply due to the previously discussed wholesale asset liquidations (as none other than the FT already noted), which on the margin are explicitly EUR positive due to FX repatriation, courtesy of the post-sale conversion of USDs to EURs. Which means that the ever so gullible equity market has just experienced one of the biggest headfakes in history, and has misinterpreted a pervasive European, though mostly French, scramble to procure liquidity at any cost by dumping various USD-denominated assets, as a risk on signal!

In other words, an internal bank run has somehow been interpreted to be stock positive... And there is your explanation for not only the paradoxical surge in the EURUSD and S&P, but why the correlation between the EURUSD and the Bund-France spread has completely broken down. Expect all of this to promptly, and very violently, correct once the market understands what an idiot it has been in the past two weeks.

From Deutsche Bank:

In the last few days there has been talk that European bank repatriation of capital may be behind EUR strength. Setting aside the timing of asset sales, and the reduced universe of potential bidders for these assets, it is worth considering what happens when a European bank sells USD assets.  European banks in aggregate are regarded as having a still sizable shortfall of USD liabilities. The BIS has done some of the most comprehensive work on the USD shortage (see in particularly working paper:  ).  The most recent data for the end of 2010 (see the latest BIS annual report page 104), suggested the funding shortage had declined by at least half compared to before the 2008 crisis.  More recently. the dependence on cross currency funding has gone up again, with the decline in US money funding.  (DB’s Bill Prophet showed EUR region CDs of 7 of the 10 largest US money funds fell by over $70bn from May through September).   Given this collapse, it is likely that European banks that do successfully sell USD assets, will try maintain the corresponding USD liability to mitigate against USD term funding that may not be rolled in the future.  If a European bank sells a USD asset, it probably reduces the European Bank shortage of USDs by the sales amount.   A smaller ‘USD shortage’, at the margin reduces the risk of a short USD squeeze of the sort seen in 2008, and to that extent is a minor USD negative, and EUR positive.  It also fits with the EUR cross currency basis swaps coming in slightly of late, although this almost certainly has more to do with global risk appetite.  This marginal USD negative, EUR positive impact, should not however be confused with a foreign exchange transaction whereby USD’s are converted into EUR.

Even Deutsche Bank is scratching its head to explain the dichotomy between the funding market and general risk. They do, however, provide the only real explanation, as opposed to the widely trumpeted by market cheerleaders ridiculous explanation that this is merely the latest "hope" rally. Ridiculous, because if that was the case, one would see a thawing of interbank liquidity and defaults spreads. As Zero Hedge readers know, 100% the opposite has happened.

Note also that the EUR is going in the opposite direction to much purer gauges of EUR tensions in the bond market. The collapse in OATS today is a major story. This is not least because France is experiencing the negative side of its (still) AAA status and being a member of the core  -  the fiscal transfers are going toward the periphery and away from the core in terms of ability to tap the EFSF for bank recaps, and possibly bond insurance/guarantees. In the past, we have noted that the periphery flows fleeing toward the core has tended to leave the EUR trading like a closed system to the outside world, which is one explanation for surprising EUR resilience to periphery travails.  The latest French balance of payments data ( )  again shows large French portfolio inflows that are very surprising, although the large errors and omissions do suggest the data is incomplete.  (In the future, Target 2 balances will be another vehicle to use to check the degree to which inflows are being concentrated in Germany solely).   In any event, instability in the French bond market has the capacity to significantly reduce points of refuge for risk averse funds at the EUR’s (shrinking) core, and adds to DB FX team’s doubt about the sustainability of the EUR’s rally...

And so on.

Naturally, the Eurocrats will be delighted to associate the run up in risk assets and the European currency as a confirmation that the market is interpreting further lies, innuendo, and confusion as a risk on indicator, and is encouraging their behavior, when nothing is further from the truth. However, the biggest beneficiary of the recent move is none other than the insolvent French banking system, whose very own liquidity run has caused asset values to soar, on an epic misinterpretation of underlying market signals, and thus sell even more into market strength, when in fact the market should be selling alongside France...

As for unwind catalysts for this most insidious market move, we are confident that the inability of the G20 to come up with any resolution over the weekend in Paris, nor the Eurozone Summit in one week to actually present any relevant details vis-a-vis the continent's bailout, or the EFSF's expansion into some multi-trillion Bailoutstein monster, will not be met too happily by a market which has just realized it has been thoroughly fooled by the cash-crunched French banking system.

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ZippyDooDah's picture

Freakin' priceless!

LeonardoFibonacci's picture

Would that fench bank be Banque Nationale de Paris (BNP PARIBAS).  Regardless of the Euro situation and total turmoil in all the spreads, the market will go up 5% monday in Europe & USA because people are hooked on HOPIUM!

LeBalance's picture

"fench" == Frucking Piceless!

ratso's picture

Great stuff Tyler.  KUDOS!!

DeadFred's picture

" Expect all of this to promptly, and very violently, correct once the market understand what an idiot it has been in the past two weeks" Couldn't happen to a nicer market.

Oh regional Indian's picture

Yep yep. Only  Q is will it be MOnday or Tuesday?



Smithovsky's picture

so another 10% up next week?  

Oh regional Indian's picture

Hah! Anything CAN happen in this universe of infinite possibilities.

But certain stresses in any complex system can act as catalysts and guide outcomes. Right now, Catalysts abound.

Perhaps tomorrow will be known in history as Black Moanday!


Smithovsky's picture

It doesn't feel like we're at maximum pain yet.  

Michael's picture

I can't tell you how desperate the situation has become.

All I got to say is get your hands on as much gold and silver as you can.

For Inspiration;

REM - Shiny Happy People


Manthong's picture

Is it possible that the algos are NOT infallible and inherently risk limited?

Say it ain't so.



French Frog's picture

"It doesn't feel like we're at maximum pain yet"

You're quite right: this market (recent rally) is starting to have all the hallmarks of the early 2010 move, when no amount of bad news (or fake/false good news) stopped it from grinding higher.

Unfortunately I expect many more shorts to be decimated in the following days/weeks before we have the next downleg

CrashisOptimistic's picture

QE2 was in full force in early 2010, with net new 600 billion of money added to the system by Ben.

We now have zero net new money being added.

Smithovsky's picture

But we do have low earnings estimates and a plan for a plan from EU with a Nov. 4 deadline.  Oh, and Tim just promised to bail out Europe if needed.

The shorts (I am one) could be in for a painful 3 weeks.  

WonderDawg's picture

I think it's possible we have a short term dip this week that might be a nice place to exit shorts, before one final surge into December. Once that surge peters out, maybe around 1260-1270 S&P, we tank and tank hard.

French Frog's picture

QE2 only started after the Jacksons Hole meeting in late August 2010; it wasn't around during the Feb/Apr 2010 market ramp I referred to when the Dow added 2500 points in less than 3 months

bonddude's picture

So who's buying? The melt-up continues in 3...2...1...

Reptil's picture

The younger brothers went away and came back again.
We went to another planet, while they remained here?
Very interesting! Thank you.

CrazyCooter's picture

When I was young and starting out, I used to have a Bill Joy quote on a piece of paper pinned up on my cube wall that said "Artificial intelligence is that which we don't understand" or something to that effect. I tried to source it, but couldn't find anything right off the bat. I burned my butter/almondbutter/nutella/sriracha power grain toast dessert doing this post, so gotta go fix my spicy tooth and head to bed.



Reggie Middleton's picture

I'm going to address this in detail in a post on both ZH and BoomBustBlog. This was seen coming in the 2nd quarter and it is quite apparent that it is being quite underestimated. These French banks can set off a chain reaction that will make Central Bankers long for the good ole Lehman collapse days. Until I get the post up (complete with downloadable models for everyone to play with - yes, Christmas comes early in the blogosphere), review:

"BoomBust BNP Paribas?" (it is strongly recommended that you review this article if you haven't read it already) as well as...

Thursday, 28 July 2011  The Mechanics Behind Setting Up A Potential European Bank Run Trastde and European Bank Run Trading Supplement

I identify specific bank run candidates
and offer illustrative trade setups to capture alpha from such an event.
The options quoted were unfortunately unavailable to American
investors, and enjoyed a literal explosion in gamma and implied
volatility. Not to fear, fruits of those juicy premiums were able to be
tasted elsewhere as plain vanilla shorts and even single stock futures
threw off insane profits.

Wednesday, 03 August 2011 France, As Most Susceptble To Contagion, Will See Its Banks Suffer

In case the hint was strong enough, I
explicitly state that although the sell side and the media are looking
at Greece sparking Italy, it is France and french banks in particular
that risk bringing the Franco-Italia make-believe capitalism session,
aka the French leveraged Italian sector of the Euro ponzi scheme down,
on its head.

I then provide a deep dive of the French bank we feel is most at risk. Let it be known that every banked remotely referenced by this research has been halved (at a mininal) in share price!

So, What's the Next Shoe To Drop? Read on...

For those who claim I may be Euro bashing,
rest assured - I am not. Just a week or two later, I released research
on a big US bank that will quite possibly catch Franco-Italiano Ponzi
Collapse fever, with the pro document containing all types of juicy
details. This is the next big thing, for when (not if, but when) European banks blow up, it WILL affect us stateside! 

centerline's picture

Looking forward to your next article Reggie.  Always appreciate your work.

Confuchius's picture


Seems for a month or so the rumors were flying regarding a cut in euro interest rates.

The euro got sold & sold & oversold.

Then the rumored interest rate cut never happened. Gone. Poof.

Followed quickly by mucho short covering. Panic. Euro rises from ashes...

fockewulf190's picture

I wonder Reggie, just how much of a Phyzz stacker you are.  I´m going to take an educated guess (in which you have been a part of based on the information you have provided over time) and predict your taking the same preventive action as many of us here are. If so, I thank you for your service.

At this moment I´m watching the German finance minister on TV trying to blow sunshine onto the situation for the German public to digest.  The man is looking older and grayer than ever before.  Not surprisingly, he never advises the public to take measures to protect themselves.  It´s all a Leslie Nielson moment: "Nothing to see here... please disperse...nothing to see here...please!!"

FL_Conservative's picture

I guess that's what happens when one allows algos to drive their trading policies.

Newager23's picture

I think it's possible that stimulus/growth of the western economies is no longer possible. The reason I say that is two-fold: the curtailing of credit and high energy prices. We have not seen Brent prices drop below $100 for quite some time, and that is the price most of the world is paying. The Western banking crisis appears to be getting worse instead of better and that is hurting liquidity and thus loans.

I know that the ECB and the Fed are going to do everything they can to maintain liquidity and bank capitalization, and they might succeed in the short term and create some inflation in commodities. But there is also the likelihood of a black swan event, such as a major bank in Europe going down, that spins out of control like the Lehman event in 2008.

The bottom line, in my opinion, is that the debt situation in the banking/financial system is not fixable. At some point, all hell is going to break loose and a lot of bad things are going to happen. Inflation and deflation are two of those events. The other is high unemployment. Another is riots and martial law in the big cities. Then it just gets worse and we have to reorganize society.

How long do we have? My guess is that it could happen any day between tomorrow and the next 24 months. I call this the change point, and it is getting closer as each day passes.

The OWS gang can feel this change point approaching and they want to do something now to prevent it. But its too late. All we can do now is start over.

prains's picture

Let's get freaking started then,this perpetual wait is killing my popcorn supply

disabledvet's picture

Again..."which is it son? The Franc or the Beans (counters)?"

Stuart's picture

basically the same as why the US dollar ran up in 2008... albeit at a much larger why should anyone be confused. 

Sutton's picture


jekyll island's picture

I wonder if the French banks got Goldman Sachs to help them like Greece did

devo's picture

Pretty much.

A year from now, if the Euro still exists, it will be 1:1 with the dollar.

Ghordius's picture

October 2012?
EUR/USD over 1.6

agent default's picture

Or 0.8.  When the market panics, and it will with the current Eurozone mess, everybody scrambles to the USD for safety.  Now, don't ask me what kind of safety you get there, I don't even know what the damn thing is really worth but they always do it.  It is stupid but they will do it.

Vengeance's picture

I wouldn't necessarily say that the market scrambles to the USD for safety... If we think about it, the only currencies which offer the liquidity needed by SWFs, CBs, Major Funds, etc. are the JPY, EUR, GBP, and USD. And the winner this year, thus far, is the JPY.

But, as fucked up as it may appear, with the USD still being the reserve currency funding most of the world's international trading (i.e. commodity prices for one), the USD, as we all well know, falls when world economy is doing well and gains during constrictive times like fears of an impending recession. This happens because the negative outlook and potential negative ramifications on business causes both American and European banks who in the good times are lending greenbacks to help support economic growth, to retrench and reduce their loans outstanding. So in the absence of new dollar-denominated loans and the paying back of currently outstanding loans the effect is a scarcity of USD liquidity and thereby a shortage of USDs! Looking at past recessions, this has happened in everyone of them for the last thirty years and has caused the USD to rally! So it's not necessarily the flight to safety as every TV pundit assumes, but instead it is quite simply loans being repaid and/or banks in a scramble to support the outstanding ones they have on their books.

topcallingtroll's picture

And if the euro falls ( dollar rises) we can qe a few more trillions without repercussions. We can make the rest of the world pay up, and pay up dearly for liquidity preferences.

There is free money out there. The third world mercantilists are basically begging us to rip them off and make them subsidize the usa.

We should oblige them

LeBalance's picture

1.6 to 0.8 on the same day, baby! Maybe 0.08 too! /roflmao/ Dicky V voice (of course):  Its an Awesome opportunity!  Its a dealaroonie from me to yoonie!  :)  /mask sez: smokin!/

fasTTcar's picture

If you can wait that long, have the same amount of ounces of gold and silver.

You won't have to play that game.

upWising's picture

Safety in the dollar?  Safety in a howling, driving rainstorm?  That's like the safety you get from a really pretty green umbrella - made of paper.  

Stay dry.

MolotovCockhead's picture

Euro up, Euro down... Dollar up, Dollar down.....what the fuck do I care!!! I'm into gold. Only interested to see some bankers jump out through the windows where they work.

yipcarl's picture

everything else is manipulated, controlled, cajoled, and at large admitedly HFT computers control 80% of the volume... and you don't think gold can be controlled like anything else?  You and everyone else in that slumber needs to wake up. 

12ToothAssassin's picture

Hasnt it been pretty well established that gold is manipulated UNDERVALUE? If everything is manipulated, then is gold still not the best play?

yipcarl's picture

I'm confused at to what you don't get?  So the elites OR the ones causing this monetary death and destruction, I.E. Feds etc.... and you think they're going to let YOU and others like you retain your wealth and even get rich during this period of paper money destruction because you own gold?  DUDE, that happens in a FREE market, this is not a FREE market.  You cannot eat your gold therefore your gold will be worth nothing, absolutely NOTHIING in a monetary collapse.  The fact this escapes so many people, even here on ZH amazes me.  AMAZES ME. 

RockyRacoon's picture

You've been here long enough not to be such a simpleton.  I pity your future.

Hulk's picture

The yipper sold all his Au at $1000, I remember when he posted that years back...

yipcarl's picture

Hulk... I can't believe you remember that?! Now Rocky 'Racoon' ... 'Gold Selling' Raccoon, who called me a 'troll' should have remembered me way before you.  As  you can see I'm no troll, actually you can click on my user name and see my posts for years, that's NOT the def of a troll.  Point is........ yes I had gold at about 500 and I sold it around 990-1120. Obviously I shouldn't have sold, I was wrong. I got alot of things wrong but i can tell you this, no matter WHO is right here........To think that gold is the place to be because our paper money, which has been backed by the strongest nation in the world for a century is going to lose it's worth(of course that will happen it's planned) is a massive feat, which IS happening....BUT then in the same thought say it's time to buy if they can't cajole and manipulate that.  What a JOKE, fairytales are made of more intellegent stuff. 

RockyRacoon's picture

The word "troll" was never used.   That's your own concoction.

macholatte's picture

The pattern does seem to suggest that the headfake was not to the upside but to the downside and then the correction was back to the upside. Clearly TPTB want a strong Euro and a weak dollar. The recent decline in the Euro was a mistake that they quickly corrected via historically extreme movements. Avoiding that kind of blip is what they are working very hard at regardless of fundamentals, logic and reasoning. Government intervention always trumps everything else. The mandate is that the currency crisis shall be avoided at all costs. So we just might see a EUR/USD = $1.60 long before we see EUR/USD = $1.20 or less.    JMHO

macholatte's picture


French Finance Minister Francois Baroin, who chaired the meeting, said Berlin and Paris, the leading euro zone powers, were well on the way to agreeing a plan to reduce Greece's debt, stop contagion and protect Europe's banks.


The G20 statement pledged to ensure banks are adequately capitalized and have sufficient access to funding, and said central banks would continue to provide liquidity to banks as required.

G20 tells euro zone to fix debt crisis in eight days

DoChenRollingBearing's picture

I have comments on the banks in my review of Barron's this weekend.  Interested to take a look?  gmail me at my name for the link.  My blog is not Fight Club, please assure me that you will behave...

A Barron's writer says the US banks are not only stronger (on average than Europe's) but they are stronger than they were in 2008.

Barron's Cover Story is about why (in Andrew Bary's view) bank stocks are a BUY now.


Germany, despite the many meetings with Sarkozy, may very well wind up running Europe after an orderly default on Greece is finished (Richard Morais, Oct. 12).  France?  No.