IronFX | May 16, 2014 08:12AM ET
Return of risk premium Bonds were rallying on Wednesday, but there was a huge reaction in the opposite direction on Thursday in several markets. Lower-than-expected Q1 GDP growth figures for some of the peripheral European countries reminded people that a) the debt-to-GDP ratio of these countries is not necessarily improving, and b) peripheral Eurozone bonds at current levels have almost no risk premium built into them. In the shorter end of the market (5 years) Ireland was borrowing at lower rates than the UK and Spain at lower than the US! (albeit in different currencies). As I pointed out in an article for the CNBC web site (”New Greek bond says more about Germany than Greece,” 11 April, http://www.cnbc.com/id/101574949 ), if a country’s interest rate is higher than its growth rate, then the debt burden will grow as a percent of GDP. The country will have to run an ever-higher primary budget surplus in order to prevent the debt from snowballing. Apparently investors suddenly realized that this is still the case for the peripheral countries. Spain may have shown an acceleration in growth in Q1 but Portugal’s economy shrank 0.7% qoq and even several “core” countries did badly (Netherlands in particular with -1.4% qoq). This put a risk premium back into peripheral bonds and yields for some countries jumped nearly 20 bps. Bund yields on the other hand fell 6 bps in a flight to quality.
The risk premium returned in currencies as well and 10-year yields now below 2.5%, probably greed will begin to outweigh fear again in a few days and investors will start to venture out again.
As for the G10 currencies, USD was higher against most except for USD/JPY, which had a safe-haven bid to it. I think it’s significant that the dollar gained against most currencies on a risk-off day and with US interest rates falling. I think this shows confidence coming back to the US economy as US indicators are improving, and confidence coming back into the USD as a result. We may finally be seeing the start of the long-awaited (by me, at least) USD rally.
Fed Chair Janet Yellen spoke to the US Chamber of Commerce and the US Small Business Administration but made no new revelations about Fed policy.
The European day is relatively light as no major affecting news are coming out. In Europe, we only get Eurozone’s trade balance for March. The bloc’s trade surplus is forecast to have risen to EUR 16bn from EUR 13.6bn.
In the US, both the housing starts and building permits are forecast to have improved in April, while the University of Michigan preliminary consumer sentiment for May is estimated to rise to 84.5 from 84.1. More good US economic news, particularly about the housing market, would probably help the dollar to rally further, in my view.
Two more speakers follow Chair Yellen on Friday. The ECB Executive Member Benoit Coeure speaks at a conference, while the St. Luis Fed President James Bullard gives a presentation on the economy and monetary policy to the Arkansas Bankers Association.
h3 The Market/h3 h3 EUR/USD rebounds from 1.3650/h3• Support: 1.3695 (S1), 1.3650 (S2), 1.3600 (S3).
• Resistance: 1.3745 (R1), 1.3790 (R2), 1.3815 (R3).
h3 Is EUR/JPY ready for another dip?/h3• Support: 139.15 (S1), 137.55 (S2), 136.20 (S3).
• Resistance: 140.00 (R1), 141.00 (R2), 142.40 (R3).
h3 GBP/USD remains mixed/h3• Support: 1.6760 (S1), 1.6700 (S2), 1.6600 (S3).
• Resistance: 1.6820 (R1), 1.6900 (R2), 1.7000 (R3).
h3 Gold not choosing a direction/h3• Support: 1280 (S1), 1268 (S2), 1250 (S3).
• Resistance: 1305 (R1), 1315 (R2), 1330 (R3).
h3 Crude Oil pulls back/h3• Support: 101.15 (S1), 99.85 (S2), 98.85 (S3).
• Resistance: 102.00 (R1), 103.00 (R2), 104.00 (R3).
h3 BENCHMARK CURRENCY RATES - DAILY GAINERS AND LOSERS/h3
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