This particular month/quarter-end is potentially shaping up as an especially volatile one. Firstly, there is the incredibly pervasive negativity which has afflicted many growth assets over recent weeks. Just recently, even safe haven assets such as the Swiss franc and gold have been sucked into this vortex of doom and gloom, as some investors have been forced to liquidate in order to pay for losses elsewhere. In the first half of this week, some tentative optimism has emerged that European policy-makers now understand that they must respond forcefully to short-circuit the contagion within their sovereign debt and banking crisis.
Secondly, global money managers have an enormous rebalancing task for this quarter-end and month-end. In the current quarter alone, US equities are down by 11% in local currency terms, European equities have generally lost 20-25%, and the German 10yr Bund yield has fallen 110bp from around 3.0%. As a result, most institutional money managers would likely be in a position where they are significantly underweight equities relative to their desired benchmark, and significantly overweight AAA-rated sovereigns. Of course, there is always the likelihood that these benchmark allocations have shifted over the course of the quarter, with equities being lowered and bonds being raised. However, such has been the suddenness and significance of the price moves that even deliberate allocation shifts between equities and bonds would probably have lagged behind the considerable price moves seen recently. For portfolio rebalancing reasons alone, the next few days are likely to weigh heavily on the dollar.
Guest post by FxPro
Commentary
German economic defiance. Although Germany is not and cannot remain immune to the slowdown of the pace of global growth, nonetheless it is remarkable just how robust its recovery remains. Yesterday, the latest survey from GfK suggested that German consumer confidence remains relatively undaunted by the unfolding sovereign debt and banking crisis that is looming large over the horizon. According to this measure, confidence has barely changed this year, and both income expectations and expressions regarding the willingness to buy remain quite high. In addition, the Federal Finance Ministry announced that it5s Q4 gross borrowing needs would be reduced by EUR 16bln to EUR 52bln, principally because of booming tax receipts. It is possible that Germany’s fiscal shortfall for the 2011 calendar year could decline to just 1.5% of GDP, an extraordinary achievement, down from 3.3% last year.
Reading the ECB tea leaves. Whilst the EU floats daily trial balloons on how to resolve the credit crisis (yesterday’s being some European Investment Bank-backed SPV), the most realistic near-term hope for support comes from the ECB, as its policy meeting approaches next week. There has been a drastic sea-change over the past two months, during which the market has shifted from pricing further rate increases, to pushing for a near-term easing of policy. For now though, it appears to be a leap of faith to expect this to arrive as early as next week. What is more likely is further liquidity provision from the ECB to ensure that banks have access to funds over the year-end period. This may even include a 1-year tender, which was first seen in June 2009, but subsequently not rolled over as the ECB attempted to stand-back from flooding the market with liquidity during 2010. It’s interesting to note that whilst excess liquidity (bank reserves above minimum requirement plus money deposited at the ECB) is back near the highs of the year, overnight money remains above the 1.00% level, having held around 0.85-0.90% for most of August and early September. At same time, Libor-OIS spreads are just shy of the highs for the year, so money market tensions remain firmly in place. All that said, it appears that Trichet is not for turning with regard to official rates. The reference at the end of last week’s G20 statement towards monetary policies maintaining price stability gave a strong indication that the ECB’s mind-set (or more specifically Trichet’s) on rates has not shifted, despite the greater downside risks to growth and increased chances of a eurozone recession. November could prove to be very different, with a new President at the ECB’s helm and a month’s worth of international pressure bearing down on the ECB. We said back in June that Trichet would ‘go down in flames‘ for indicating a July rate increase and his likely intransigence next week should seal his fate.
Greek Grit. Under extraordinary strain and suffering, Greece’s political leadership continue to exhibit an apparent determination to push through extremely unpopular but vitally necessary austerity measures. Yesterday, the Greek parliament considered various policy initiatives, including the recently announced property tax; late yesterday parliament passed the measure, which hopefully will pave the way for the release of the next tranche of bailout money. Finance Minister Venizelos announced a further 20% cut in public sector wages yesterday as part of yet another package of measures, on top of the 15% reduction in civil service salaries and 25% drop in wider public sector wages already announced. In addition, the Finance Minister has demanded new cuts to pensions of 4%. Not surprisingly, the Greek public is up in arms. According to a recent poll, three-quarters of the Greek population oppose the property tax, and almost 60% think Greece will default. More general strikes have been called for both October 5th and October 19th. Greece remains a horror story, but certainly Papandreou and Venizelos are showing true grit.
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