Financial Advisor

Week, Month and Quarter End Flows Affect Markets

Germany successfully ratified the European Financial Stability Facility expansion yesterday with a very clear coalition majority for Merkel which gave the EUR and risk assets a brief bid initially.  Following on from the German parliamentary ratification of the expanded EFSF (as agreed on the 21 July across the Eurozone) the spread between 10yr Greek Bonds and German Bunds has come in from recent highs and the 2-year note yield found a bid in the improved sentiment, driving the yield as much as 500bps lower.

US Data Highlights
In addition to the relief of the German EFSF ratification the highlights of US data were a slightly better than expected Q2 GDP, which was revised slightly higher at the third time of calculating and a substantial improvement in the weekly jobless claims data (though there may be some seasonal anomalies that are likely see the improvement revised away - at least partially) gave risk assets and equities a boost and sentiment was generally improved.

That however appeared to be the top of the risk rally and the squeeze in positioning in short EUR positions that we were looking for at the start of this week that was supported by a sharp sell off in Euribor futures (or a rally in short end Eurozone rates). The revelation that Italy’s deficit rose to 3.2 percent of GDP in Q2 (up from 2.5 percent in Q2’10) just as Italy paid a high of 5.86 percent in its first long dated bond auction since its recent downgrade also helped take the shine off the EUR as the European Central Bank bond buying support seems to have waned or is having a smaller impact on lowering the yield on its debt.

Whilst for the most part of the week the headlines expounding concerns about and the flaws of the European Monetary (but not fiscal) Union have continued, their impact has been minimal.  Overnight S&P action to downgrade New Zealand’s Sovereign rating along with a more fragile start to the day for risk assets will likely bring Eurozone woes back to the fore today and I would expect to see the EUR underperform.

SNB action supports GBP
The announcement yesterday that the Swiss National Bank (SNB) “will likely raise the share of (their reserve) portfolio in GBP” should help GBP to outperform into the USD rally and EURGBP will start to look weak below the important 0.8660 level.  Whilst I have been emphasising the virtues of GBP for a while now I will stop short of suggesting that I was expecting the SNB action but I do strongly believe that GBP will continue to benefit on diversification and safe haven reserve allocation flows going forward. While Greece continues to remain the core focus of concern, the UK exposure to the troubled periphery nation, which is smaller than you might imagine should also be of some relief and despite the fact that everything is far from rosy in the UK economy (though UK consumer confidence rose for the first time in four months) at the moment I continue to be a GBP bull.

Today in the US sees month end index extensions, quarter end, and the twist to ‘operation twist’ as the long-end assets for purchase are announced by the Fed. The US curve is already markedly flatter with 10s 30s at a mere 105bps and I would expect this to remain a broad positive for risk assets and the US.

Data wise again there are no first tier releases today but confidence and activity data out of the US will be closely watched for sentiment into the close of the week month (and quarter).  On the day volatility is likely to pick up around the fixing times as rebalancing flows are potentially greater than usual following some relatively big moves this month, particularly in Emerging Markets and high yielders.

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