Wall Street crashing for a fourth straight week, S&P moving four per cent or more six times in ten days and US and European leaders’ continued failure to address double-dip and sovereign debt concerns underscored the volatility that drove market sentiment towards increasing risk aversion as the week unfolded. The early-week calm was broken by poor US macroeconomic data that tested the safe-haven rush to yen/franc at a time when serious intervention gestures from Tokyo and Zurich signal changing rush-to-quality dynamics in the near future.
The yen finally breached historic March lows as USDJPY fell below the psychological 76 barrier, dropping as low as 75.956 on Friday before settling at 76.533 for the week. This shows that upward pressure will remain strong so long as market consensus builds against US/EU problems. But with Japanese exports down 3.3 per cent (yoy) in July – more than the expected 2.4 per cent – and the yen appreciating 5.6 per cent in the last three months, traders are posturing for near-term shorts as serious intervention expectations have diminished volatility with daily price action narrowing.
Swiss monetary authorities, too, are not far from interfering to prop up the franc again. Up 11 per cent in the last quarter, its rise has begun derailing Switzerland’s export dependant economy. SNB’s saber rattling successfully repelled safe-haven franc bulls for most of last week. But even if the ghost is sometimes more powerful than the actual move, market stress dictates that a strong SNB move upon resumption of flight-to-franc is inevitable. Late last week the franc began appreciating after its week-long decline, ending the week at 0.784.
Overall market sentiment remains driven by the epic euro-dollar battle of uglies. Clearer dollar direction is likely to come from Bernanke’s comments after the Fed’s Aug 26 Jackson Hole conference, with another dip in the offing in case the deepening slowdown prompts further stimulus. But the euro’s fate seems sealed after the Sarkozy-Merkel pep talk confirmed market fears of rubbishing the eurobond initiative. With a simmering revolt in her coalition ruling out an effective German guarantee on reckless peripheral borrowing, and German growth surprisingly slowing to 0.1 per cent in the second quarter, Merkel’s hands are tied. Even if Bundesbank executives failed to pressure the ECB against buying sovereign bonds, their determination to keep monetary authorities from interfering in fiscal jurisdiction are beginning to influence Brussels through Berlin.
Ironically, the euro’s outlook has dramatically changed from the cornerstone of continental unity to the fissure splitting it apart. The markets’ best immediate term expectations revolve around policy announcements as focus shifts away from recklessly throwing good money after bad debt and monetary easing to boost stock prices. Sentiment will no longer be soothed by band-aid jugglery. Investors need credible assurances going forward as both US and Europe edge “dangerously close to recession” (Morgan Stanley).