Risk Aversion Returns

Risk Aversion trading takes over again in the Far East as uncertainty over the seriousness of the ‘swine-flu’ proves the driver for market traders. Official comment puts the death toll so far in Mexico at 103 and although there have been no fatalities from the disease in the US, there have been reported cases in several large cities including at a high school in New York City. This really is an example of ‘watch this space’ and the market will be conscious of any adverse developments.

Whilst the flu story is very unpredictable, the rest of the market has a more routine ring to it. The US Treasury get back on their cash raising wagon following last week’s break in funding and are hoping to raise $ 101 billion over the next 3 days via the issue of 2, 5 and 7 year Treasury notes. The EU have a less onerous agenda, with Euro 19 billion of bonds on offer and the UK, via the BoE buyback, seeing a net negative £ 2.5 billion. Sterling looks a tad under pressure this morning despite the ratings agencies announcing that they are not planning to review the UK’s AAA sovereign status. It certainly looks as though the market is still concerned about the country’s enormous budget deficits and growth data and is shying away from Sterling at the moment. The IMF questioning Alistair Darling’s projected growth and activity numbers used in his budget calculations is not going to help.

G20 meeting in Washington, which the world had hoped would ratify the new era of co-operation and joint action, was a bit of a disappointment with disagreement between the US and Europe and the Far East and the US raising the possibility that the new IMF funding programme might not go ahead as easily as had been hoped. The meeting broke up with little progress having been achieved with just the now obligatory statement about China freeing up their currency market to show for a weekend of jaw-boning.

As for economic news, this week sees some important releases from the US especially. Given that the recent return of risk appetite has been driven by a move towards more benign economic statistics, the market will hope for no surprises. US GDP and ISM figures look the most interesting. I would expect moves in forex rates to be dominated by equity moves, again, as well as on news of the spread or containment of the swine-flu epidemic. Lots of big US Corporates reporting this week so Wall Street the catalyst.

So far today we have seen the Hometrack housing survey from the UK (down 0.3% but maintaining the better trend) and the May German consumer climate survey, a forward looking indicator, which came in better than expected along with an upward revision to April’s number. No reaction from exchange rates to either release.

Gold is the big mover since last week with the price of the precious metal rising $20/oz following news that China’s state holdings have been raised by approximately 450 tonnes (or by +75%) since 2003. China has been rumoured to have been buying gold for a while now but this number is much higher than had been thought. Given that their percentage of foreign reserves held in gold is still only about 1.5% against a global average of nearer 10%, we can expect to see this buying continued with a corresponding move up in price. The estimates for gold to hit $2,000/oz by year end might not be so far from the actual that they once appeared with a softer Dollar as a result a viable prediction.

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Equity Sell Off

On the face of it yesterday’s Bank of America’s Q1 figures were excellent continuing the recent strong rebound in US Banks’ performances with the organisation reporting a better-than-expected $4.2bn in Q1 earnings, which reflected strong results at recently acquired Merrill Lynch.

The sunny outlook was however clouded by a serious health warning with US stocks suffering their worst one-day fall in 6-weeks as BoA worried investors with a bleak analysis of economic conditions in the coming months. This about-turn in the fortunes of Wall Street added to the US Dollar’s impetus enabling a break and hold below 1.3000 against the Euro and easing cable towards 1.4500. This trend looks likely to persist over the next few days at least, with concern for Sterling ahead of the budget and a continuation of the poor prognosis for Eurozone economic recovery.

On that theme, there was a report in yesterday’s edition of the German newspaper, Sueddeutsche Zeitung that the German government will next week slash its 2009 economic forecast and project a 5-percent contraction in gross domestic product (GDP) with the collapse of incoming orders given as the major reason. The government’s last forecast was for GDP to contract by 2.25 percent this year. This argues strongly for a weaker euro to try and stimulate the export market in both German and the eurozone as a whole. Problem here of course is that if the whole planet is going to use the same ploy of allowing their currencies to depreciate to facilitate a pick up in exports, then what currency is going to receive the ‘benefit’. It looks a toss up between the Yen and the Martian Mark but more likely will turn out to be the Dollar.

Yesterday we were also given the latest assessment of the UK economic battlefield with a surprisingly bullish outlook …. although the health warnings were never far away. “worst of UK recession is over” they state but added quickly that the move into recession had occurred much quicker than had been anticipated. No reaction from Sterling. Better news for the UK came from Tesco’s results which were stronger than had been expected and accompanied by the comment that the company were predicting that consumer pending had passed the base of the trough and was edging higher. It will be interesting to see what today’s UK inflation figures are. Anything higher than the 2.9% rate that has been widely mooted will cause consternation that both money supply and inflation are beginning to get out of control.

Today, aside from the UK data we get the German ZEW indicator (judging by the above, it should not be too good) and rate decisions from Sweden (already out - they cut by 50 points down to 0.50% but on a split vote with some members wanting a cut down to 0.25%) and Canada this afternoon with a further cut expected in Loonie interest rates. Other than these, we are scheduled to get very little data and so, just for a change, currency markets will focus on the performance of equity markets for direction. Expect a recovery in stock prices and a corresponding small fall in the Dollars value this afternoon

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