Short dollars does not support the EURO

The market started out being caught flat footed in Asian and ended up with the dollar only making some small gains overnight. Even with the EUR building up a plethora of negative reasons to want to hold the currency short term, the market continues to run into a brick wall of ‘hawkish’ support. Surprisingly, this is even happening in the illiquid regional market time-zones.

The reality, the market is very short dollars. Thus far, the Euro-zone has failed to deliver a a comprehensive funding solution. This uncertainty and the ‘how and when’ Portugal will get EFSF financing, coupled with the Irish bank stress tests on Thursday, and the Irish government’s bank bondholders plans should have the market second guessing throwing further support behind the EUR.

The USD is higher against the EUR -0.17%, GBP -0.54% and JPY -0.40% and lower against the CHF +0.11. The commodity currencies are stronger this morning, CAD +0.05% and AUD +0.27%.

Revised US growth and Fed members take on perhaps ending QE2 a tad earlier is supporting a healthier risk appetite amongst investors who seem to be oblivious to all geopolitical and event risks.

This morning, markets will again be focusing on the inflation portion of today’s US personal income and spending report. Consensus expects the PCE headline and core-deflators increasing to +1.6% and +0.9% year-over-year, with gas prices driving the rise in the former. Analysts anticipate real-personal spending and income to rise +0.3% and +0.4%, respectively. The combination of rising spending and steady core-inflation should again be supportive for risk appetite and North American currencies.

Merkel’s Christian Democratic Party was hit by an embarrassing loss in a state election over the weekend. The impact of the election on her ability to govern will be limited. However, political pundits will tell you that suffering this loss, in a riding they have dominated for so long, is a ‘troubling precedent ahead of three regional elections slated for this year’.

The USD is higher against the EUR -0.17%, GBP -0.54% and JPY -0.40% and lower against the CHF +0.11. The commodity currencies are stronger this morning, CAD +0.05% and AUD +0.27%.

The loonie only knows one direction when global risk sentiment increases and commodity prices remain elevated, and that’s higher outright. However, on Friday with investors booking profits from the week in the commodity sector and a Canadian government being toppled, happened to push the currency away from its two-week high, temporarily at least.

Investors should expect this political uncertainty to have a limited affect on the Canadian dollars strength. The currency will be supported in the long term by its fundamentals, a sound financial system and a strong job environment.

The market continue to focus on the global ‘big picture’. Plosser’s stating that the Fed should detail a plan for withdrawing record monetary stimulus has also aided in pushing the CAD lower against its largest trading partner. Longer term support continues to come from commodities and increased risk tolerance.

These dollar rallies provide an opportunity to want to own some of the commodity and growth sensitive currency that is supported by stronger fundamentals and a sound fiscal position for the longer term (0.9800).

The AUD has backed away from its 1983 float benchmark (1.0316), after running stops above Friday’s high. The currency has pared some of its gains, temporarily at least versus the dollar, on speculation that the Fed will end its bond-buying program, raising prospects the supply of dollars will eventually fall.

The currency has been supported by investors pricing out the possibility of a rate cut and pricing in the chance of a rate hike again next month. The probability of a reduction in Australia’s benchmark interest rate on April 5 is 13%, down from as much as 34% last week.

Appetite for growth and commodity sensitive currencies depends on the new found stamina of risk tolerance by investors. Further appreciation depends on investors interpretation of future interest rates between the two nations (1.0288).

Crude is lower in the O/N session ($104.85 -0.55c). Big picture, oil prices remain volatile, with ‘continued’ momentum behind prices on the back of Middle-East tensions.

On Friday, the commodity found it difficult to maintain ‘this’ bullish momentum after failing to penetrate its 30-month high. It has slipped slightly on concern that the European debt situation and the crisis in Japan could curb fuel demand.

Libya has seen its oil exports cut off due to the month long rebellion and Western sanctions. Market participants continue to worry how long the disruption will last and it’s this, along with contagion fears in the region that will provide a bid again. Libya, Yemen and Syrian events will make it unlikely that investors will see a ‘swift normalization’ of crude-oil production in the region near term.

Crude has been able to hold onto some of last weeks gains despite the weekly EIA inventories reporting the expected supply increases. Stocks of crude rose +2.1m barrels last week, right on estimates. Unlike gas, whose stockpiles declined -5.3m barrels. The market had been expecting a drawdown of only-2m. Distillates (heating oil and diesel) were flat for the week. Analysts had anticipated a decline of -1.5m barrels.

On deeper pull backs the Middle East and North African situation will continue to dominate.

Gold has fallen on bets that the recent rally to a record was overdone. Commodity prices have found it difficult to create any follow through. Stronger than expected US economic data on Friday is encouraging investors to book profits after the aggressive run-up earlier last week.

There has been a couple of reasons that have pushed the yellow metal into uncharted territory, unrest in Libya and the Middle-East coupled with Europe’s lingering periphery debt crisis boosted the demand for the precious metal as an alternative investment. With so much global uncertainty it’s difficult to find a reason not to own some commodities in your portfolio.

The metals bull-run is far from over with investors continuing to look to buy the commodity on dips. These price pullbacks are viewed as favorable opportunities for investors to continue to diversify into safe-haven assets and push for those new record highs.

Even hawkish global rhetoric has managed to support higher commodity prices. With the commodity being used as a store of value, the asset class is expected to remain better bid on deep pullbacks ($1,419 -$8).

The Nikkei closed at 9,478 down-58. The DAX index in Europe was at 6,966 up+20; the FTSE (UK) currently is 5,918 up+18. The early call for the open of key US indices is higher. The US 10-year backed up 5bp on Friday (3.44%) and another 3bp in the O/N session.

Treasuries have again come under pressure, pushing the benchmark 10-year note yield close to a two-month high as investor concerns eased that Japan’s nuclear crisis and Libya’s military conflict will undermine the global economic recovery. However, the Middle-East remains a problem.

News that the US economy grew better-than-expected (+3.1%) in the fourth quarter coupled with Plosser’s remarks late Friday that US monetary policy would have to be normalized ‘in the not-too-distant-future’ is making it difficult for FI to rally.

This week, the US government will offer a total of $99b two’s, five’s and seven-year notes. Dealers will find it easy to make room along the curve to absorb the product.

Investors can expect geopolitical and event risk in the Middle-East and North Africa to continue to support FI on much deeper pull back. Ten-year notes look capable of threatening 3.50% in the short term as policy makers hint at an early exit plan from QE2.

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