Euro Rally Fizzles Out

The euro (EUR) was down to its last strike on Wednesday night; but an 11th hour deal put it back on the rally tracks, and yesterday’s trading was something for the ages… When I signed off, the euro was 1.4025, and I thought that to be a nice gain! Oh, was I cutting the euro’s prospects for the day short! First 1.41 was taken out, and then the single unit traded all the way to 1.4255… Are you kidding me? The currency that was supposed to be collapsing had gained over 2 full cents in one day of trading? How could that be, even famous-named economists claimed this was the end of the euro?

I think it shows two things, folks… 1. It shows just how many short positions in the euro were being held, and had to be covered to prevent additional losses; and 2. What the pent up negativity toward the dollar really is.

Oh… And I really pulled a Dr. Evil yesterday. (You know… Dr. Evil from the Austin Powers movies?) I said that the EFSF had been increased to 1 million euros, which at $1.40 was equal to $1.4 trillion dollars-worth… Hmmm, that does not compute, Will Robinson! I meant to type: 1 trillion euros! One reader caught it… And sent me a picture of Dr. Evil! HAHAHAHAHAHAHA!

So… While the euro shorts were being closed out (with losses, I might add) the markets were crazy with euphoria, much like the Cardinals fans last night! But, you know what happens when things move too quickly, right? Yes, they fall back… Too fast, can’t last, is the saying among currency traders for times like this. So, as I said, the euro reached 1.4255 yesterday, but overnight and this morning, the markets woke up from their night of debauchery with a hangover, and decided they had moved the euro too far, too fast yesterday… So, the single unit is off about 3/4-cent this morning…

Nevertheless, barring a complete turnaround today, the euro will post its third weekly gain versus the dollar… Maybe it’s a case of the old adage about a star burning the brightest right before it burns out… But I don’t think so… But I do agree that 2 full cents in one day qualifies for too fast, can’t last…

And… When the Big Dog (euro) comes back to the porch, all the little dogs (the other currencies) follow… For instance… The Aussie dollar (AUD) had climbed to $1.07 yesterday… Not bad for a currency that the markets believe will see a rate cut soon! But, it’s been a perfect storm for the Aussie dollar this week… First we had Chinese manufacturing rebound; then Chinese GDP remain above 9%, and then the Grand Plan for the Eurozone, which had weighed heavily on the Aussie dollar… Sure, Aussie inflation was lower, but in the whole scheme of things, that’s GOOD! So… The perfect storm for the Aussie dollar unleashed powerful winds to fill its sails, and a downpour of rain on the US dollar…

Don’t know when this report came out… But the boys and girls over at a major brokerage house issued a call to sell euros and buy dollars… Of course, they were also one of many brokerage houses that lowered their forecast for the euro a month or so ago… So connect the dots… I’m not picking on anyone. I’m just pointing out that when you are in the business of making calls on assets, you’re going to get some wrong from time to time.. And who could blame all the brokerage houses that lowered their forecasts for the euro? The Eurozone leaders looked like a bunch of chickens running around the barnyard with their heads chopped off for the longest time.

So… Just to show both sides of the coin, here… The euro euphoria isn’t being shared in some of the major brokerage houses…

The stock jockeys had a great day too yesterday with the Dow up over 3% on the day. But they too moved too far, too fast, and stock futures this morning are pointing to a weak opening…

Wanna know where all the funds came from to fuel the huge rallies in currencies and stocks? Well, the 10-year’s yield rose to 2.38%, which means its price fell by a huge margin… I would have to say, this is the main source of funding for the huge rallies… Think about this move in the 10-year for a moment… As I’ve explained many times before, the so-called “Safe Haven” just doesn’t turn out to be that! On 10-3-2011, the 10-year’s yield was 1.75%, which was equal to a price of $103.36… Today’s yield of 2.38% is equal to a price of $97.78… So for every bond (1,000) you would have a loss of over $5… Now, multiply that out by the hundreds of thousands, or even millions for hedge funds and institutions… OMG! So, much for that so-called Safe Haven!

Well… As thought by the markets… The US preliminary print of third quarter GDP was bang on +2.5%… Mike Meyer stopped by to bring me some documents to sign, yesterday morning, and as little as I could talk, I said that I hadn’t been able to look under the hood at the GDP number as of yet, but I bet that a major piece of the GDP was government spending… I still haven’t been under the hood yet. But, 2.5% isn’t too shabby, eh? Sure beats negative growth, or the 1.3% growth we saw in the second quarter… But this will see a couple of revisions, so there is downside risk here… I might present this thought though… 2.5% isn’t the stuff that the global economic engine is made of… So, while on the outside it’s a better print… One must ask the question… But is it really?

I just noticed that the euro had moved down another 1/4-cent this morning, on reports that a group of banks are claiming that they know of no deal as yet with the European Union on restructuring Greek debt… Oh, come on traders, do not be swayed by news like this… How in the world was the EU to get the details out to every bank in less than 24 hours? They’ll get it!

OK… Back to the data cupboard… Weekly Initial Jobless Claims remained above 400,000 again last week, and I can see former Fed Chairman, Big Al Greenspan, jumping up and clicking his heals together because Personal Consumption was up 2.4% in the third quarter… I’ve said this in the past a few times, but Personal Consumption rising is, in reality, nothing more than you and me working longer and harder…

Today, the data cupboard will yield two of my faves… Personal Income & Spending. Once again, it looks like Spending will double Income… And once again I’ll say that’s not a good thing, folks! We already played that game, and the outcome wasn’t too pretty when the markets and economy went to hell in a hand basket, and consumers had no savings from which to draw…

Next week’s European Central Bank (ECB) meeting will be the first presided over by Mario Draghi… I’ve told you all that I expect Draghi to cut rates in the Eurozone… So, this will be the meeting that he lays the groundwork for a cut in December… He’ll sound very dovish… And that won’t help the euro, unless… the markets are still in the mood to reward currencies from countries that cut rate to promote growth. That’s a discussion we had a few weeks ago.

And in a very simple message that runs very deep, a Chinese Foreign Ministry spokeswoman said that “China is prepared to increase cooperation on finance, trade, and investment with Europe to support the global economic recovery.”

Sounds harmless, right? Ahhh grasshopper, it’s just another foot in the door for China… They are already the financier to the US and to up their presence as a financier of Europe would be another step in their goal to replace the dollar-based monetary system with the renminbi (CNY) … Not now, not next year… All the steps have to be in place, and as you can imagine, the Chinese are moving at a slow pace, as to not ruffle the feathers of the US and not have investors flocking to renminbi, just yet..

Then there was this…. You know how Norway and its sound fiscal policies have long been a fave of mine… Who can’t love a surplus? So… This story caught my eye… From Bloomberg

Norway’s $570 billion Sovereign Wealth Fund sold all its holdings in US mortgage-backed securities as part of a shift of its fixed income portfolio. The Fund holds no mortgage bonds issued by Fannie Mae and Freddie Mac and an insignificant amount of private home loan-backed bonds.

Wanna know why Norway’s Sovereign Wealth Fund sold all their mortgage-backed bonds issued by Fannie & Freddie? I think I know why… All the refinancing risk… And add to that all the talk of the government restructuring home loans… The Fund held about $11 billion in mortgage-backed bonds from the US at the start of the year, so… This can’t be just shrugged off by the markets…

To recap… The euro drove the rally bus yesterday for the currencies, but the bus has returned to the station this morning. Yes, the euro rallied very strongly yesterday to 1.4255, over 2 full cents of gain in one day… That has proved to be too fast to last, and the euro has given back 1-cent this morning… Nonetheless, the euro will most likely post its third weekly gain versus the dollar. US third quarter GDP printed at +2.5%, not too shabby, but Chuck hasn’t had a chance to look under the hood just yet…

Chuck Butler
for The Daily Reckoning

The Daily Reckoning