Dollar Firmer As European News Stream Remains Negative

BBH CurrencyView

• US dollar was firmer vs. majors Monday even as euro zone news stream remains negative; Moody’s cut Belgium two notches Friday to Aa3 and kept a negative outlook
• Euro short positions at record high on IMM; euro zone Finance Ministers to hold conference call Monday; France auctions paper today
• Reported death of North Korean leader Kim hurt KRW; EM FX mostly weaker as Brazil remains obsessed with BRL

US dollar was stronger vs. majors Monday as the euro zone news stream remains negative. EUR trading in a narrow range on both sides of 1.30 but still feels heavy. We see further losses after this corrective bounce, but positioning in the euro is still getting stretched, suggesting scope for further consolidation before the next leg lower. CFTC data shows non-commercial euro net shorts at a record -116,457 contracts as of the end of the reporting period on December 13. So far today, the Loonie and Stockie are outperforming vs. USD and are up on the day, while the Aussie and sterling are underperforming vs. USD and are down.

Equity markets are mixed, with Asian stocks largely down and European stocks opening up. Euro Stoxx 600 is up 0.9% (financials up 1.1%) while US equity market futures are pointing to an up open.
Bond markets are mixed. Periphery yields are mostly higher, as 10-year Greece up 1 bp, Portugal up 4 bp, Ireland up 12 bp, Spain down 14 bp, and Italy down 19 bp. The US 10-year yield is up 2 bp, Germany up 5 bp, France up 6 bp, and UK up 5 bp. The 2-year US-German spread is up to 1 bp from 0 bp, which was a new low for the year.

The commodity complex is mixed, with oil up, gold flat, and copper up. EM currencies were mostly weaker. KRW, IDR, BRL, and INR are underperforming in EM vs. USD and are down on the day, while ZAR, RON, and CNY are outperforming vs. USD and are up on the day.

European news stream remains negative. Greek media reports that the government needs to adopt additional measures worth EUR2 bln in Q1 12 to meet program targets. ECB President Draghi ruled out more aggressive SMP buying in a weekend FT interview. Draghi speaks to European Parliamentary Committee today, and the next ECB meeting is January 12. Moody’s two notch downgrade of Belgium to Aa3 on Friday was not that surprising, but adds to the notion that the crisis has not been solved. France auctions EUR7 bln of paper today. Borrowing costs have fallen sharply in recent weeks, but these auctions should be a good indicator of how investors feel about France in light of recent rating agency moves on France.

No wonder then that European finance ministers will hold a conference call today to discuss the implementation of the latest program for ending the debt crisis. The call is scheduled to start 3:30 PM Brussels time and will include discussions about providing funding to the IMF and the ESM. While the call will formally be for the 17 euro zone finance ministers, the finance ministers of all 10 other EU states will participate also. Euro zone officials cannot be happy with the market reaction so far to the EU summit, and so are likely trying to find a way to regain some credibility.

Death of North Korean leader Kim is clearly adding to global uncertainty. Not much is known about his chosen successor, son Kim Jon Un (age 28 or 29). It will likely take months if not years to discern whether the new leader will take a different approach with relations with the West. Until that becomes clearer, the won will be subject to periods of volatility, as we suspect Kim Jon Un will take hawkish steps to burnish his standing with North Korea’s military. The won is also one of the high-beta EM currencies, and so the backdrop for the won looks negative near-term.

Finance Minister Mantega said Brazil won’t let the real strengthen to 1.60, and may double the existing tax on FX derivatives if there is excessive strength. In a separate interview, Mantega said the government may consider additional taxes on imports to protect domestic industries from unfair competition from abroad. Lastly, Mantega said Brazil may make further cuts to payroll taxes and taxes on consumer loans in order to boost growth next year. Basically, Brazil is sending the message is that it’s business as usual, despite the last few months of turmoil. Growth is the utmost concern right now, despite high inflation, and Brazil remains concerned about a strong real.