Wednesday January 14, 2009 - 15:31:23 GMT
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Black Swan Capital - www.blackswantrading.com
ECB Looms and ERM risks rise!
â˘ Sales at U.S. retailers fell more than twice as much as forecast in December. (Bloomberg)
â˘ Portugal yesterday became the latest eurozone country to be warned by Standard & Poor's, the credit ratings agency, that it faced a possible downgrade to its ratings status because of its public finances - the fourth eurozone member to face such a threat in as many days. (FT)
âLike George Orwell, Mr. [Vaclav] Havel described âliving within the lieâ. Both saw how the dishonesty inherent in such acquiescence ultimately corrupted all aspects of life, personal as well as political. Themselves masters of language, both men understood that the abuse of language was central to that corruption. In 1984, and even more effectively in his essay on political language, Orwell explained how political rhetoric was constructed by sticking together reiterated phrases that had ceased to be connected to their literal meaning.â
FX Trading â ECB Looms and ERM risks rise!
A while back we started talking about the risk to breakup of the European Exchange Rate Mechanism (ERM). Of course the usual howls of disbelief we usually get when we look in the opposite direction of the consensus. But the reality is, spreads are widening fast among the various sovereign bond markets in Europeâthe market is pricing in risk--something that isnât supposed to happen within the ERM.
âSpain was warned on Monday by S&P about its high levels of public and private debt, while Greece and Ireland were told on Friday that their deteriorating public finances could lead to downgrades.
âThis has led to a sharp widening in the gap between German bond yields and those of other eurozone countries.
âBut they are not the only European Union countries to have been warned that their credit ratings may be downgraded because of deteriorating public finances.
âOn December 22 Fitch Ratings cut Lithuania's long-term foreign currency issuer rating from A- to triple B+, explaining that the risks to fiscal stability were likely to grow as the country fell ever deeper into recession,â according to the Financial Times.
Heck, why shouldnât Italy, Ireland, Spain, and Portugal be able to borrow at conservative German interest rates? Heck, we are one cohesive unit! YeahâŚsure you areâŚ
If Germany had its precious D-mark back, it would likely be crushing the competition. Instead, the D-mark has tied its wagon to a conundrum. And now, instead of traders snapping up any German sovereign bond offeringâthe ERM baggage is repelling them as so happened yesterday.
We wholeheartedly concur, and have said so many months ago, with this comment from GaveKal research, published recently in the Financial Times (6 Jan â09):
âThe important question of 2009 will be whether Milton Friedmanâs prediction that the euro will not survive its first recession intact will turn out to be propheticâ.
Sadly, does this negative news about Europe do anything to improve the ugly picture in the US? Absolutely not! And therein lays the extreme perversity of this game of currency trading. We often end up holding positions that arenât based on any particular merit other than itâs a lot worse somewhere else. This we think is why so many people are perplexed by the dollarâthey focus only on US economic ills, which are many indeed.
I canât remember if we shared this chart before with CC; we have with our Members. It is a comparison of the path of the euro relative to the path of emerging stock markets. The two have been tracking very tightly. Why? Well, probably a lot of reasons. But one of the main reasons we believe is the incredible relative exposure of European banking to the emerging (read sub-merging) markets. Simply putâthe emerging economies canât repay the loans to foreign banks when demand for their exports (commodities and manufactured products) has vanished.
MSCI Emerging Market Index (black line) vs. Euro-USD (blue line) Weekly:
(Chart unavailable in text format.)
âAs Miroslav Kalousek, finance minister of the Czech Republic, which holds the EUâs rotating presidency, said in an FT interview last week: âOften Iâm woken at night by a nightmareâhow am I to refinance the debt.?ââ (FT)
The question: Is all of this already in the price? Tomorrow the ECB gives us its rate decision. Mr. Trichet will speak. Will it be buy the news or sell the news? A clue there we do not have. But we do believe the pressure will continue to grow on the ERM for many months to come.
Black Swan Capital LLC
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