Monday May 10, 2010

European central bankers took giant-sized strides through European capital markets on Monday morning likely leaving long-lasting footprints across a landscape blighted by fiscal crisis. The revelation of a trillion-dollar plan immediately backed by purchases of government bonds across the Eurozone is a game-changer that has shocked investors due to its size. At the same time it has allowed authorities to seize the initiative after global markets were last week plunged into crisis due to their inaction. Global stocks are streaking higher and the dollar has been winged by a revival of fortunes for the euro. Risk is once again back on the table.

Euro - Last week it was central banks and the European policy minnows who appeared to be gasping for breath in shallow waters, trapped by the inescapable backwash of market disorder and pursued by speculative predators until the game was almost up. However, the minnows' weekend metamorphosis has seen the central bankers take on a giant and shadowy figure that has lured its hunters out to deep waters before turning on them.

The euro reached rock-bottom at $1.2510 last week and has skyrocketed to as high as $1.3095 in early going. A 14-hour meeting of EU governments attempted to put into place a financial agreement in time for the opening of Asian markets. The resulting €750 billion package provides agreement over a €440 billion package of loans from European governments and €60 billion from the existing EU budget and an icing on the cake of €250 billion from the IMF.

In addition central bankers agreed to reinstate a currency-swap agreement that would alleviate strains in global dollar-funding markets. The action was first used after Lehman's collapsed and credit markets became strained thanks to counterparty risk. Its resurrection today helps quell such pressure and ensures that demand for dollars is met without simultaneously raising a red flag.

The euro is currently trading at $1.2970 and the trade debate is likely to be fixated by whether the central bank action is enough to smoke the pile of short bets against the single currency out. Some market onlookers see the move as a clear pause in the downturn but have advised that the move will resume below even last week's 14-month lows for the single currency.

U.S. Dollar - The dollar index fell sharply and is currently lower by 1.3%. The demand for safety is off the table after the European measure to stymie risk. And while the euro is up almost 2% against the dollar, the greenback is higher by more than 2% against the yen, which was the biggest winner last week at the risk-aversion championships.

Aussie dollar - With risk appetite back on the table the Aussie dollar is higher also by 2% against the dollar at 90.61 U.S. cents this morning. That's a one-cent rally over Friday's close.

Canadian dollar - A sigh of relief for financial and commodity markets has inspired a two-cent reprieve for Canada's dollar, which surged on the European news from Friday's close at 95.91 U.S. cents to 97.95 cents as the North American morning digests developments. Crude oil prices are sharply higher by almost 4% at $78.05 per barrel and almost justify the price I paid at the pumps this weekend. Clearly gas stations were taking a tough line in response to last week's Eurozone meltdown!

British pound -The near-stalemate on Friday in the aftermath of the British election went largely unnoticed since the pound was already caught in the downdraft of everything else on the slide versus the dollar. It's hard to pinpoint whether the pound's demise to below $1.4500 at one point was due to political risk or dollar strength. Over the weekend a fourth meeting between the Conservative and Liberal Democrat parties seems destined to result in a majority Conservative-led government. And while gains for the pound could equally have been pinned on euro-strength (and dollar weakness) today, the political scene has changed markedly since Thursday. The pound has subsequently rallied five cents and trades at $1.5006 to start the week. Sterling eased to 86.32 per euro but gained more than 3% to ¥139.72 against the Japanese unit.

Japanese yen -The yen lost its mojo in early trading losing out to the resurgent euro, which added 3.4% to ¥120.46. Against the dollar the yen seems happy in a range between ¥93.00 and ¥93.50.

Andrew Wilkinson Senior Market Analyst