US Dollar Softer on Slightly Better News Stream

The US dollar is beginning the week on a softer note, but well within recent ranges.  Most of this week's key events lie ahead.   The day earlier than planned and somewhat larger Italian austerity plan coupled with talk of ECB purchases has helped send Italian bond yields sharply lower, with the 10-year yield falling over 50 bp toward 6%.  Spanish 10-year bond yields have fallen about 40 bp to near 5.25%. 

The German 6-month bill auction produced a 0.0005% yield.  Despite all the consternation about the recent spectacularly under subscribed auction, there is no real capital flight from Germany.  The 3 and 6 month generic bill yields remain in negative territory.  Germany looks to sell 5 bln 2016 paper on Wed. 

The market suspects the ECB may have increased its sovereign bond purchases in recent days and we'll learn the size shortly.  Just as importantly is tomorrow's sterilization operation.  Last week the ECB failed, for the second time, to sterilize the full amount.  Perhaps if it happens again, the ECB will seek to drain the extra liquidity through a shorter operation. 

Note that European banks deposited over  300 bln euros with the ECB on Thurs and Friday last week using its overnight deposit facility.  This suggests that European banks have cash but may not be willing to lock it up for a week and prefer the overnight facility. 

On Wednesday, the ECB will offer dollar under the new terms.  Although many observers have played up the international cooperation with last week's decision to cut the price of dollar swaps, in fact, it seems to the contrary a largely unilateral gesture on the part of the US, demonstrating once again US policy makers concern about systemic risks.   If it is cooperation, it seems like a particularly weak example.  Other countries did not have to do a thing.  Some coordination. 

Tomorrow the Swiss report the Nov CPI figures.  Some suspect that an as expected report, showing deeper deflationary pressures, will prompt the SNB to lower the cap on the Swiss franc.  Many are talking about CHF1.25 (vs euro), but this is around 1% away from prevailing levels and this seems like little reward for the risk.  A more compelling case can be made for CHF1.30, but even here the risk-reward and other trade offs seem to favor continuation of strategic ambiguity. 

US Treasury Secretary Geithner starts his 4th trip to Europe since early Sept meeting with numerous key officials.  Note that the German paper Die Welt reports that the Fed and 17 European central banks are discussing lending the IMF funds to help address the debt crisis, now that the leveraging of the EFSF has proven so difficult. 

While the UK reported a stronger than expected service sector PMI, the euro zone's was slightly lower than the flash indication (at 47.5 from 47.8) but still above the Oct reading of 46.4.  The real news of the PMIs today is from China where the service PMI fell to 49.7 from 57.7 in Oct according to the official measure.  New orders fell to 47.2 from 52.5, though input prices fell.  Following last week's cut in reserve requirements, today's report will fan expectations for additional easing.   Chinese stocks  are among the weakest performers today, with Shanghai dropping over 1%.    Ironically, the Taiwanese shares fell (0.6%), but foreigners bought $120 mln worth of shares.  In Korea, where foreigners sold $66.5 mln, the Kospi rose 0.35%. 

In terms of price actino proper.the euro has largely held above $1.34. Initial resistance is seen in the $1.3450-60 area.   The high from last week, recorded on Friday just after the US employment report, near $1.3550 is key to stronger gains.  At the IMM, through last Tuesday, the net speculative position was short 104.3k euro contracts, the most since the record in spring of last year (-114k).  

Specs added to short sterling positions, but at 46.6k the positioning is far from extreme, though it is the largest net short position since early December.   In early Oct there were nearly 70k net short.    Support has been built just below $1.56.  Potential to re-test the $1.5700 area. 

The market is going into tomorrrow's Swiss CPI release short francs.  The specualtive market has established its largest net short Swiss franc position since July 2010.  It is the third week in a row that net shorts have grown, but still quite minor at -9.3k. 

The net short Canadian dollar position grew for the fifth consecutive week.  At almost -27k, it is the largest net short position since 2008.  US dollar resistance is seen near CAD1.0230.   The pre-weekend low near CAD1.0079 may be tested again, but it requires a break of CAD1.0050 to signal anything important.