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The markets are ore lacklustre today. The euro is treading water; however it was boosted by some positive comments coming out of China. The FX markets led risk higher yesterday, the euro and Aussie are both broadly higher today, but risk sentiment feels more subdued. The pound is fairly neutral and the Swissie is also under some pressure this morning. The yen is showing signs of strength and EURJPY is broadly flat. If we continue to see yen strength then it may signal a breather for risky assets as investors take profits.
· How bad have banks performed? We will see when JP Morgan kicks off earnings season this afternoon. Q3 results are expected to be weak; however it is the outlook for the rest of the year that is important. If results are not as bad as expected then stocks could rally hard since banks' have come under intense pressure in recent weeks.
· Europe remains front and centre yet again. It feels like we are in for a long wait until the next EU Leaders summit on October 23rd. Expectations are building that this summit will produce bold measures to nip this crisis in the bud once and for all.
· The markets liked EU Commissioner Barroso's 5-point plan that included bringing forward the introduction of the ESM permanent rescue fund to mid-2012 from 2013, a coordinated bank recapitalisation plan, building an integrated euro-area economic governance framework, completing euro-area intervention including ratifying the July changes to the EFSF and speeding up growth enhancing policies like the free trade agreements and tax initiatives. Barroso now hopes the plan will be agreed at the next EU leaders' summit in Brussels on October 23.
· The UK's credit rating is at risk according to a news article in the Daily Telegraph. The article quotes a report from Legal & General Investment Management. It throws cold water on the government's claim that growth can be sustained during the fiscal squeeze saying that it would require the biggest private sector boom ever. Pressure is piling up on the government after unemployment reached a 15 year high in August.
· German inflation levels remain elevated it was reported today. Price data for September showed German inflation remaining at 2.6%. This means that pressure will remain on the ECB to refrain from rate hikes.
· The ECB monthly bulletin was fairly bearish. The ECB said that larger private sector haircuts on Greek debt risks contagion and that private sector involvement will hurt the already weakened banking sector. It said that risks to the economic outlook are to the downside, but that risks to inflation are broadly balanced, however it mentioned that inflation is likely to remain above 2%. It also added that growth in the second half of this year will be very moderate. This has weighed on the euro and pushed EURUSD below 1.3800. EUGBP has also come off its highs after a fairly bleak assessment from the European central bank.
· The euro could be caught between two conflicting forces today: on the one side we have the ECB. It is acting like the currency bloc's reality check. Although Germany believes that more private sector involvement needs to be part of the solution to Greece, the ECB is warning that it could make things a lot worse and potentially cause the problems to spread to Italy, Spain etc., which are much more expensive to fix. On the other side, there were some encouraging words from China today. Its Foreign Ministry said that Europe has the ability to overcome its problems and said that it will work with Europe to meet the challenges it faces. We don't know if this means it will buy sovereign debt and help to lower borrowing costs for some of Europe's most troubled economies.
· Deutsche Bank's head Ackerman was speaking today and he said that bank recapitalisations - the lynch pin on the Merkel/ Sarkozy plan to save the Eurozone - may not be the salvo it is expected to be. Although bank recapitalisations pose risks to public finances Europe's banks don't want to recapitalise when their stock prices are so low and would rather sell off assets. This may be good for the banks, but it is not good for growth as it could constrain lending to households and businesses.
· Elsewhere the Aussie is higher today after much stronger employment data. AUDUSD is running into resistance at 1.0235 - the 50% retracement of the July high to early Oct low. The Aussie is still vulnerable to risk sentiment in our view, however strong labour market data makes cuts from the RBA less likely and if the market starts to concentrate on fundamentals then the Aussie may move higher on its own steam.
· Ahead today: Italian bond auction, UK trade data and US jobless claims are the highlight.
Kathleen Brooks| Research Director UK EMEA | FOREX.com
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