US Dollar Riding High, Greek Concerns Dominate

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Marc Chandler is the global head of Brown Brother Harriman’s top ranked Currency Strategy Team. For more of BBH’s currency views, please visit the BBH FX website here.

Highlights

The US dollar is riding high today, with broad based gains against the major currencies and enjoying a firmer tone against most emerging market currencies.  Even stronger than expected European PMI reports and a better German IFO survey failed to lend the euro much support.  The single currency has been pushed to new 10-month lows and took out the longer-term stops and option structures believed to have been struck near $1.3400.  This area now poses the first hurdle on corrective bounces.  There does not appear to be strong support ahead of the $1.30 area, but for the moment, the $1.3300-20 area may be sufficient to slow the move.   The dollar is breaking higher against the yen and is at its best level since late Feb, despite Japan larger than expected trade surplus.  The JPY91.60-80 offers the next resistance to the dollar’s march.  Sterling is heavy ahead of the budget, but this was most a function of dollar strength as the pound was firmer on the crosses.   Support is seen ahead of Monday’s low around $1.4932.   

Global equity markets were buoyed by the rally on Wall Street yesterday.  Modest gains in Asia lifted the MSCI Asia Pacific Index to extend this month’s gains to about 6%.  Of note, particularly strong foreign inflows this month have been in seen in Korea and Taiwan.  These markets are seen as leveraged plays on the global recovery.  News that Taiwan’s industrial output rose for the sixth month in Feb (35% year-over-year), with export orders rising for the fifth month is consistent plays to this theme.  Separately, note that DRAM chip prices rose for the sixth day yesterday (3.2%) and this is helping the sector.    European bourses opened higher, but have seen early gains pared as the US shares also turn south.   However, the tech sector is here too one of the bright spots. 

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Sovereign bond markets are trading off a bit today.  One exception is Japan, where news that the government was doubling the cap on deposits fanned ideas that will boost demand for long-term JGBs, which is a favored investment vehicle for the Japan Post.    Greek bond are also bucking the larger trend amid news that Germany and France may have worked out their immediate differences over the EU Summit.   This appears to have taken some pressure off the other weaker euro zone credits as well.  Portugal may be lagging a bit after Fitch downgraded Portugal to AA- and maintained a negative outlook. 

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Stop the press:  Germany and France agreed that the sovereign nation of Greece could go to the IMF.  Is it really their decision? Greece says its wants support not money.   When it comes to verbal support for the Greek government’s efforts, which was elected last October and is not the cause of the problems, European officials are the first in line.   There can be little real doubt that the same interpretation of the letter of the law that allowed many countries to fudge entry into EMU in the first place, that allowed the rules to be changed midstream so that Germany and France would not be censured for their fiscal excesses, that allowed funds to be given to new EU members amidst the crisis in 2008 can surely be read and interpreted in a fashion that is more supportive of Greece.  What is lacking is political will.   It would seem that Greece would turn to the IMF as a last resort if Europe does not offer some mechanism, which in effect would boost its standing in the market and allow it to raise the some 10-15 bln euros it needs to meet the April-May maturities and coupon payments.

The importance of the Franco-German understanding is that it increases the odds of a more favorable outcome to the summit that begins tomorrow.  At the start of the week, the world was being told that Greece was not really on the agenda.  No doubt it is now.  In terms of the IMF, some are arguing that because Greece cannot devalue, one of the go-to-solutions for the IMF, its fiscal demands will likely be more severe than Europe’s.  It is difficult for envision the IMF demanding even faster deficit reduction measures.  It could influence the mix between spending cuts and tax increases.  But the larger point, as Greece has made, that it is enacted a severe IMF-like program without the payoff.   Some European officials are still reluctant to give the IMF much of a role.  It is seen as an admission that Europe can’t address its own problems.  However, to admit that the eleven year old experiment is still evolving is not a terrible thing and may buy Europe time to develop the institutional capability truly and now obviously necessary.  Other voices are playing up the risk of the disintegration of Europe, today citing an article in the Germany’s Handelsblatt suggesting that even some euro zone finance ministers are questioning the functioning of the EU.  Our point is that this crisis is an opportunity for Europe and we suspect the result will be stronger institutions and more integration, not less. 

The economic data from the euro zone suggests after largely stagnant Q4 09 and a slow start to 2010, as spring comes so does a re-acceleration of the economy.  German and French manufacturing flash PMIs were stronger than expected at 56.3 and 59.6 respectively.  Germany’s service sector PMI was also stronger than expected, but the French reading was disappointing, slipping to 53.0 from 54.6.  Nevertheless the euro zone PMI individual components and the composite were stronger than expected.  The German IFO was also above expectations at 98.1 (vs consensus near 96).

However, as the Fitch downgrade of Portugal and warned that it was vulnerable to further rating cuts illustrates, Greece’s woes may be only the tip of the iceberg.  Although some noted observers have argued that solving the Greek problem would make a fire wall around the other weaker credits, others are less sanguine and are worried about parallels with the 1997-1998 Asian financial crisis.  And this is not just about fiscal policy.  ECB officials have indicated willingness to re-consider its collateral rules if necessary.  In fact, the one of the cause of the market volatility of Greek bonds could be that much of the supply is already being used as collateral at the ECB, making for even thinner market conditions.

Upcoming Economic Releases                                                                       
The US reports Feb durable goods orders.  A small rise in this volatile series is expected after a 3.0% rise in January.   Manufacturing appears to be a leading sector in the recovery and this is may be picked up by this series.  Excluding transportation are expected to recover after the January decline.   New home sales in Feb may have risen around 2% after more than an 11% decline in January.  Yesterday’s existing home sales were about half as weak as expected. 

This material has been prepared by Brown Brothers Harriman & Co. (“BBH”) and is intended for information purposes only.  This communication should not be relied upon as financial, investment, tax or legal advice.  This communication should not be construed as a recommendation to invest or not to invest in any country or to undertake any specific position or transaction in any currency.  This information may not be suitable for all investors depending on their financial sophistication and investment objectives.  The services of an appropriate professional should be sought in connection with such matters.  The information contained herein has been obtained from sources believed to be reliable, but is not necessarily complete in its accuracy and cannot be guaranteed. Sources used are available upon request. Any opinions expressed are subject to change without notice. Please contact your BBH representative for additional information. BBH’s partners and employees may own currencies in the subject of this communication and/or may make purchases or sales while this communication is in circulation.

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