Merkel Takes A Political Hit & EUR Suffers

Risk appetite in FX was muted at the start of this trading week, as renewed worries over Japans Fukushima nuclear plant coupled alongside German Chancellor Merkel's CDU party's disappointing results in Baden-Wurttemburg. USD found support from hawkish comments by Fed members, although the two culprits of Fisher and Plosser are already considered more hawkish members.

The overall gist of their comments, were that the Fed members are leaning towards policy normalization rather than further quantitative easing. This will put greater emphasis on the fed speakers Lockhart, Evans (a voting member) and Rosengren's comments today.

In addition the fed preferred barometer of inflation core PCE, will help determine if the Feds efforts to avoid deflation has not overcompensated with some inflation trickling into the system. The other major driver has been developing events in the Euro zone, which has weighted on the EURUSD.

First of all, the EU summits ended with no real agreement, which has increased the markets concern that members are further away than publically acknowledged. Today Trichet will be speaking and perhaps will mention possible movements toward an aid request from Portugal. On Thursday, we should see an evaluation of the capital and liquidity requirements of Irish banks under “stress” scenarios. After the anticipated release, markets are buzzing with speculation that the ECB will disclose a strategy offer for Irish banks access to funding. In Germany, German Chancellor Merkel's CDU lost its six decade old seat in Baden-Wurttemburg as discontent over the nuclear issue propelled the Greenparty to win 24% of the vote. While the disappointed vote undermines Merkels base, we don’t view it as a direct response to EU sovereign crisis issues, and therefore we don’t see much chance of political contagion.

In the US, we will see the US personal income and spending data later today. Markets expect personal income to have grown by 0.4%, while personal spending also grew by 0.5% mom and core PCE inflation, where we look for a reading of 0.2% m/m. Overall, risk correlated FX traders have been doing well with the AUDUSD, now clear of all time high at 1.0292. Markets are now showing an appetite for JPY fueled carry trades. The declining implied vols and JPY rates that are clearly at a standstill for quite a while, which has embolden interest rate differential traders.

Written by AC-markets