Dailyfx

This copy is for your personal, noncommercial use only. Please click here to print the article.

Flight to Safety Continues as Safe Havens Outpace Aussie, Euro

Wednesday, 09 May 2012 14:08 GMT

by  Christopher Vecchio, Currency Strategist

No news out of Europe has been bad news, with little resolution in sight for the political impasse currently developing among Greek leaders. A few thousand miles to the west, stress in Spain is adding fuel to the fire, creating the necessary contagion condition for a global flight to safety, mainly into the US Dollar.

Fundamental Headlines

- Lugar’s Tea Party Loss Dims Republican Senate Prospects – Bloomberg

- Moody’s Bank Downgrades Risk Choking European Recovery – Bloomberg

- New Greek Poll Looms as Government Efforts Flounder – Reuters

- China Cuts Gasoline, Diesel Prices – WSJ

- Europe’s Markets Hit by Greece Fears – WSJ

European Session Summary

Higher yielding currencies and risk-correlated assets were under pressure throughout the overnight sessions, with the main downturn coming during the Asian session while European traders essentially tread water, if not pushing risk lower, ahead of the US cash equity open in New York. As firms try to raise capital amid an accelerate breakdown in the Euro-zone sovereign debt crisis, commodities have been sold-off alongside higher yielding currencies, such as gold and the Australian Dollar.

The Australian Dollar, the day’s worst performing currency, was hit particularly hard earlier today after Prime Minister Julia Gillard called to return the budget to a surplus in order to give the Reserve Bank of Australia more room to ease. A stronger fiscal policy, she noted, would give the RBA “maximum room” to shift monetary policy and help exporters struggling with an elevated Australian Dollar. The prime minister’s position here is clear: shift the burden of helping the economy from the government to the central bank; this in turn should yield another rate cut in the coming months. In fact, Credit Suisse Overnight Index Swaps are now pricing in a 90.0 percent chance of a 25.0-basis point rate cut at the policy meeting in June.

In regards to the European crisis, it’s evident that concerns raised in this column since last summer have been vindicated: a lack of structural reforms would place a large burden on the public; a deterioration in the standard of living leading to social unrest; social unrest leading to the rise of fringe political parties, likely cultivating a demagogue who would upset the established ruling political clash (enter Alexis Tsipras, head of Syriza); and the shift in power would result in a serious discussion about the country leaving the Euro-zone. Greece is close to this point; they have the necessary ingredients. By no means is this a victory lap, but rather, a reminder that the social consequences of the debt crisis should never be forgotten or disrespected. Considering how markets have responded since the French and Greek elections on Sunday – equity markets have tumbled, Treasury yields have sunk, the Japanese Yen and the US Dollar have rallied significantly – it’s evident that market participants aren’t considering the longer-term political consequences of the debt crisis. What does this mean? There’s a lot more room to the downside if the situation progresses at its current pace because very few are prepared.

Taking a look at credit, contagion is certainly spreading in the Euro-zone periphery, with shorter-term funding costs rising sharply today. Italian and Spanish 2-year notes dropped by 12.7-bps and 32.6-bps, respectively, with their yields rising to 2.968 percent and 3.530 percent. Amid this shift, capital has shifted into safer government debt, in particular into German Bunds and US Treasuries.

AUDUSD 5-min Chart: May 9, 2012

Flight_to_Safety_Continues_as_Safe_Havens_Outpace_Aussie_Euro_body_Picture_10.png, Flight to Safety Continues as Safe Havens Outpace Aussie, Euro

Charts Created using Marketscope – Prepared by Christopher Vecchio

The Japanese Yen has been the top performer on the day, gaining 0.35 percent against the US Dollar, which is very reminiscent of how the USDJPY performed during the height of the Euro-zone crisis last fall. The EURUSD is also weaker, having depreciated by 0.48 percent and holding below 1.30. The Australian Dollar was the worst performer, shedding 0.78 percent to the US Dollar.

24-Hour Price Action

Flight_to_Safety_Continues_as_Safe_Havens_Outpace_Aussie_Euro_body_Picture_1.png, Flight to Safety Continues as Safe Havens Outpace Aussie, EuroFlight_to_Safety_Continues_as_Safe_Havens_Outpace_Aussie_Euro_body_Picture_7.png, Flight to Safety Continues as Safe Havens Outpace Aussie, Euro

Key Levels: 13:25 GMT

Flight_to_Safety_Continues_as_Safe_Havens_Outpace_Aussie_Euro_body_Picture_4.png, Flight to Safety Continues as Safe Havens Outpace Aussie, Euro

Thus far, on Wednesday, the Dow Jones FXCM Dollar Index (Ticker: USDOLLAR) is trading higher, at 9991.76 at the time this report was written, after opening at 9960.34. The index has traded only higher, with the high at 9999.05 and the low at 9960.34.

--- Written by Christopher Vecchio, Currency Analyst

To contact Christopher Vecchio, e-mail cvecchio@dailyfx.com

Follow him on Twitter at @CVecchioFX

To be added to Christopher’s e-mail distribution list, send an e-mail with subject line "Distribution List" to cvecchio@dailyfx.com

© 2014  DailyFX an FXCM company. All Rights Reserved.