Nervous Calm over Currency Market

A good reception to a Spanish bill auction and a some what better than expected German ZEW investor survey helped stabilize the risk sentiment which had been battered yesterday.  The major foreign currencies are mostly firmer on the day, but the modest gains have left the short-term momentum indicators a bit over-extended.  This would seem to favor early North American participants selling into the currency bounce.

Outside of the bill auction and the ZEW survey the news stream has not been particularly good.  There continues to be talk that a German bank may need state help.  Moody's put on negative credit watch 8 Spanish banks and the EU summit decision on IMF funding appears to be running into political obstacles.   

UK inflation eased a bit more than expected and further and sharper declines are likely in the coming months due to base effects.  November year-over-year CPI rose 4.8% after a 5% print in Oct.  It appears UK inflation pressures have peaked.  This is conducive for an extension of the current gilt purchase program.    While the BOE may welcome the positive effect on gilts from the UK's role as a safe haven--an alternative to the euro--it may not like the impact on sterling if it leads to appreciation on a trade weighted basis, which mitigates or dilutes the impact of  the easing.

The ECB's monthly reserve period ends tomorrow and this may ease some market pressures.  Overnight deposits at the ECB reached a enw high for the year at 346.3 bln euros yesterday.  The EFSF sells bills today for the first time (2 bln euros).  In recent days the spread between EFSF bonds and German bunds have narrowed--from nearly 200 bp on Nov 21 to below 150 bp now. 

The FOMC meets today and although it is rarely a non-event, today's may be close.  There may be some minor tweaking of the economic assessment, but it seems too early to expect a notable change in communication, which seems to be where the focus is.  It seems likely that without new action, Evans maintains his dissent. 

Many investors are contemplating what to do with cash over the next several weeks where market activity dries up.   The Mexican peso has been the worst performing Latam currency this year, depreciating about 10.4% against the US dollar.  The net speculative position in the IMM futures was long peso until mid-Sept.  Since mid-Sept the peso has fallen 6%, compared with say a 7% decline in the Chilean peso and the Brazilian real. 

Meanwhile, foreign investors stepped up their purchases of Mexican cetes in the second half of November.  The central bank has stepped up its defense of the peso, announcing at the end of last month that it would auction $400 mln a day.   There is a cetes auction today and it may be attractive as a place to park funds over the turn of the year.  

The one-month yields are just above 4.3%.  At the same time, the peso remains vulnerable disruptions in the capital markets emanating from Europe.  On the other hand, the recent string of US economic data has been generally stronger than expected, pointing to stronger growth in Q4 even if Q3 GDP is revised lower later this week.  When tensions ebb in Europe, the peso appears poised to be an out-performer