Squaring up

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The risks are that we see a choppy end to the week, month and also quarter today, with a lot of flows to be executed to square things up. There are also holidays in China next week. Markets got a taste of this yesterday with EUR/USD trading the session lows and highs within the space of an hour as details of the Spanish budget were announced.

In sum, expectations were raised that Spain was paving the way for a bailout in the coming weeks. The past 24 hours have seen the dollar softer against all the major currencies, with the Aussie and Kiwi gaining the most, sending AUD/USD to the week’s highs at 1.0475.  For today, it’s a case of steering through the volatility and shaping up for the new quarter ahead.

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Commentary

Budget blues in Spain. It was a volatile end to the trading session for single currency yesterday as details of Spain’s budget were released. Spain concentrated more on spending cuts than revenue increases, but still sees revenues increasing by nearly 4% next year whilst the economy is contracting by around 0.5%.  But with the budget minister stating that the measures went beyond what was being asked for by the EU, markets took this to meant that Spain was making efforts to pave the way for a bailout request in the coming few weeks. Spanish bond yields were lower as a result of the measures.   As Greece has displayed however, it is one thing to promise and another to deliver, and following through on the 43 different pieces of legislation designed to bolster the economy will be a major challenge, both politically and economically.

Golden struggle.  Some rather choppy price action in gold this week with Wednesday’s losses being unwound in yesterday’s trade.  Since the Fed announcement on 13th September, gold has unwound around than half of the gains made up to the USD 1,787 high seen on 21st September. The dollar itself has more than regained the losses seen in the wake of the Fed announcement. The upshot is that gold has shown some decent resilience to the stronger dollar, reflecting the fact that gold’s inverse correlation with the dollar (1mth rolling basis) has weakened form the levels seen earlier in the month (from -0.83 to -0.74). The interesting factor behind this latest move is the sharp increase in physical holdings of gold by ETF funds, the data from Bloomberg showing a rise of over 2% since the Fed announcement. But, as with many markets, the bigger reaction was seen ahead of the event, rather than in the subsequent trading period. The gold bulls are still reliant on inflation emanating from the Fed’s latest round of quantitative easing, where it is more focused on the labour market (which is part of its remit) than on prices. Now, it could be that the actions of the US and other central banks have avoided a period of deflation in the major economies; ultimately though we can never know.  On the charts, the uptrend seen from mid-August is still intact, with trend-line support currently coming in at USD 1,737 (spot USD 1,755), but the fate of gold still lies ultimately with the fate of the dollar going into year-end, and whether the greenback gets the jitters after the US election and before the US ‘fiscal cliff’ issue is resolved. The inflation debate will remain unresolved over the final quarter of this year.

Reading the US economy.  The dollar was initially weaker in the wake of yesterday’s Q2 GDP being revised down sharply by the Commerce Department to 1.3% (from 1.7%), mainly because inventories were much lower than initially estimated. Even more disturbing was the 13.2% decline in August’s durable goods orders, although this was mainly due to a 102% collapse in non-defence aircraft orders. Initial claims fell 26K in the latest week to 359K, while the Labour Department increased its estimate of jobs created in the year ended March by 386K to 1.94m. The Fed will be cheered by the labour market numbers but worried by the slowing of both orders and investment. These figures suggest QE3 could be running for quite some time.

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