Was today risk on or risk off? The U.S. dollar continued its recent weakness as the world’s major currencies all rallied against the “safe haven” greenback. The Reserve Bank of Australia cut its interest rate last night but even the Aussie dollar gained against its sister fiat currency. Global equity markets were down as the Japanese Nikkei was weak as the inverse correlated Yen was higher by one-and-a-half percent. Yes, equity markets failed to send the U.S. currency higher.
More perplexing was the massive rise in long-term yields as BOND futures from Tokyo to Frankfurt to New York were all sold in dramatic fashion. Bonds found no rally in conjunction with a weak equity market. All just a ball of confusion. Correlations breaking down are to be welcomed but we have experienced this test of long-held market correlations several times before only to be disappointed when the maths asserted themselves over the prevailing fundamentals. The equity and bond markets have been levitated by the power of central bank QE programs so today’s price action may well be an anomaly rather than any trend reversal.
Making matters more difficult was that the British pound rallied more than 1 percent even though the market is forecasting a 25 basis point CUT AT THURSDAY’S BANK OF ENGLAND MEETING. (CURRENT PROBABILITY OF A RATE CUT IS 97%). But the POUND joined the anti-DOLLAR currency trade in defiance of Brexit negativity. The EURO currency also rallied even as the market was aggressively divesting itself of European bank stocks. The the bigger the bank, the larger the down move in price. Investors have defied the European banking authorities in their effort to pacify investors and depositors with the recent “stress” tests.
The Italian banks are at the center of concern as Prime Minister Renzi is attempting to force greater concessions from Brussels and Frankfurt to satisfy a capital infusion into the nonperforming loan-plagued Italian financial system. Renzi knows full well that Brussels was dazed by Brexit and a potential Grexit. An Italian banking crisis would create political uncertainty that would make Brexit a non-event. The Italians have scheduled a referendum on the Italian constitution for October and a banking crisis would ensure that the Renzi government would certainly lose its referendum in the midst of a banking crisis, sending political tremors across the EU.
And yet the euro rallied. What message is the market sending about the U.S. dollar? Is the market becoming concerned about U.S. growth, the dissonance within the FED, or most probable, U.S. politics? The fear of rising populism in the U.S. against previously agreed trade agreements may be having an increased impact on U.S. financial assets.
And now for something different (click on the image):