Notes From Underground: Angela Merkel Sang; Mario Is Back; and There’s Going to Be Trouble

As the markets toiled to regain their summer strength, ECB President Mario Draghi provided the elixir to keep the summer party kicking. NOT ONE TO BE BALLOON POPPER, THE ECB PRESIDENT LET IT BE KNOWN THAT THE DRAGHI MANDATE WILL PROVIDE FOR BUYING OF SOVEREIGN DEBT OF UP TO THREE YEARS. It seems LTRO IS ALIVE AND WELL AND LIVING IN FRANKFURT. Mr. Draghi let the markets know that in his opinion, ECB purchasing of short-term is part of the Bank’s mandate, “to intervene in bond markets to wrest control of interest rates and ensure the euro’s survival.” (BLOOMBERG NEWS)

In another Bloomberg article (Black, Randow and Stearns) Mario is even more straight forward when he said: “But if we go on the short-term part of the market where bonds have a length of time, a maturity of up to one year, two years or even three years, these bonds will easily expire, so there is very little monetary financing if anything at all that we are doing.” The entire DRAGHI-SCHAEUBLE PLAN IS TO BUY BRUSSELS THREE YEARS OF TIME IN ORDER TO CREATE THE FISCAL UNION THAT THE GERMANS AND OTHER EU CORE NATIONS DEMAND. It was Schaeuble who opened up the gates of possibility for Draghi’s do anything manifesto, by claiming that correcting “mispriced” sovereign debt was also part of the ECB’S MANDATE. It was a very broad interpretation by the German finance minister, but it was the  cover that Draghi so desperately needed. It is very interesting that the ECB PRESIDENT fails to be concerned with massive amounts of LTRO for it will only roll off and disappear in a “short” while.

Again, injections of massive liquidity to forestall a SOLVENCY PROBLEM is not the formula for a strong EURO. When the headline question is EXISTENTIAL then any sense of respite is thus perceived as a positive–RISK-ON/RISK-OFF. Even though Draghi utilized verbal intervention today, he got a great deal of bang for his EURO. The SPANISH 2-YEAR NOTE dropped precipitously on the ECB comments with yields falling to 3.10%, the lowest since April. The 2/10 SPANISH CURVE widened out to 52-week high of 352 BASIS POINTS. The Italian 2-YEAR NOTE performed even better as the YIELD FELL TO THE LEVELS RIGHT AFTER THE FEBRUARY 29 LTRO.

The Italian 2/10 CURVE ALSO MADE A 52-WEEK HIGH as it steepened to 329 BASIS POINTS. The SOVEREIGN DEBT MARKETS GAVE SENOR DRAGHI A BRAVO, BRAVO, a huge reaction and neigh a piece of “ammo” wasted. And except for the precious metals, the markets were willing to accept Draghi’s assertion that little monetary financing would be required. HA LA HA LA the insanity is back. Guess we know why Mario Draghi couldn’t attend Jackson Hole. The laughter over the “little monetary financing” line would have made the Tetons crumble.

***Readers of NFU know that I am generally in agreement with the Aussie Central Bank (RBA), but for the last three months I have been questioning its desire to allow the curve to keep flattening. The Overnight/2-YEAR curve is badly inverted and rather than cut rates to alleviate the “problem,” Governor Stevens last night held the rate at 3.5%. The statement by Governor Stevens acknowledged that global risks were still to the downside as Europe is contracting, commodity prices important to Australia have fallen sharply and terms of foreign trade have “declined significantly.” The RBA decided that the cuts made in May and June are still working their way through the economy and thus the need for further change is not as yet necessary.

The AUSSIE DOLLAR stages a brief rally on the no-action but by the end of New York trading, the AUSSIE DOLLAR resumed its recent downtrend. The nascent weakness in the AUSSIE is a warning sign for a 3.5% OIS rate in a yield starved world should support a commodity currency in what seems to be a RISK-ON environment. The winds of change are a blowing and the RBA seems to be lacking the first mover advantage.I am usually loath to sell a currency with a flattening yield curve–but the market action is dictating that other forces are at work.

***Being that this is CENTRAL BANK RATE DECISION WEEK, tomorrow at 8 a.m. CST  the Bank of Canada (BOC) announces its rate decision. The market is expecting rates to remain at 1% and I concur. The strong Canadian DOLLAR and a very moderate growth rate in the economy will work to keep the world’s top fundamental economy on hold. Finance Minister Flaherty and Governor of the BOC, Mark Carney, are trying to softly deflate the housing boom, but the strong CAN$ will keep the rate steady. More important will be Carney’s statement, which will be heavy with global financial and economic outlook. After Bernanke’s softish views on the U.S., it will be important to hear what Carney has to say about the economic outlook of its largest trading partner. And then comes Thursday with the BOE and the ECB. This is truly a three-ring circus.


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One Response to “Notes From Underground: Angela Merkel Sang; Mario Is Back; and There’s Going to Be Trouble”

  1. Alex Says:

    Yra. Keep up the great work, you’re really helping me get a grip on the economic situation as well as the other games that are being played. Regards, Alex.

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