Sunday, July 3, 2011

Bill's Update - Markets Chief Economist

Risk sentiments had a drastic turnaround last week as Greece has secured the fifth tranche of bailout fund from EU at €12bn to avoid an immediate default. The strong rebound in US equities was impressive with DJIA and S&P up 5.4% and 5.6% respectively during the week, both posting their largest weekly gains since July 2009. CAD AUD, and NZD were the strongest currencies in the risk seeking environment and were supported by the rebound in commoditiesl.

Meanwhile, safe haven assets suffered. CHF had a sharp and broad-based reversal after making record highs against most major currencies in June. Gold, on the other hand, also tumbled through the $1500.00/oz level again and was extremely weak against the EUR.

EU finance minister are expected to approve to release the fifth tranche of the bailout fund to Greece after the country passed the new €78bn austerity package . The €12nb fund of the €110bbn bailout made last year should help Greece rollover debts maturing in July and August and thus avoid an immediate default. In addition, that should help Greece take one step closer to getting the second bailout, which could worth as much as €85bn. Austrian Finance Ministry said that the second bailout for Greece would have Eurozone nations and private investors contributing 70%. IMF would cover 70%. German and French officials are ‘believed’ to be targeting around €30bn from private investors. Finance ministers are trying to wrap up the new aid plan at a July 11th meeting in Brussels. And together with the €110bn fund from he original bailout a year ago, the total package will be up to €195bn. The focus from now until July 11th would be on how Eurozone officials could come up with the€30bn private investors involvements.

Attention ahead would possibly starting to shift away from Greece as the second bailout look set to be concluded on July 11th. Focus will turn back to growth and monetary policy. ECB officials remained hawkish last week and reaffirmed markets expectation of another rate hike this week. However, whether EUR/USD could breakout from recent triangle consolidation would very much depend on markets expectation on further policy path. Currently, markets are only pricing in around 70% chance of another rate hike this year even though inflation stood at 2.7% y/y in June.

GBP was a victim in a drastic change in rate expectations in recent weeks. markets are now pricing a rate hike from BoE in May 2012, and that's a big change from February when markets bet on a hike this May. Recent economic data provided no support to an earlier hike and indeed, comments from BoE officials suggest that some members are back considering more quantitative easing. So the pound would likely remain weak in near term. 

CAD, on the other hand was boosted by strong inflation data, with CPI jumped to 3.7% y/y, well above expectation and far above BoC's 2.0% target. It's indeed the strongest level in more than 8 years. While BoC Governor Carney still sounded worry on the fragility of the economic recovery, there are increasing speculation that the bank would be forced to act before the end of the year should inflation pressure persists. There are speculations that BoC would have a 25 bps hike by September and another 25 bps hike by the end of the year even though a rate hike is not fully priced in money markets until 2012. 

written by: Bill Hubard , Chief Economist at