FX markets trade in a range prior to Cyprus weekend shocker

Tom Tong18/Mar/2013Currency Updates

Financial markets traded in a generally narrow range with a moderately positive tone all week, in the absence of dramatic events or market-moving data releases. The Euro was generally flat, and Sterling reacted well to Mervyn King’s suggestion that its devaluation was sufficient for now. This uneventful week was overshadowed by Friday’s news that the EU had decided to impose losses on Cypriot bank depositors, a first in the Euro crisis. Although Cyprus’s economy is a tiny sliver of the EU’s (less than 0.3%), this precedent, and the fact that the EU ignored the EUR 100,000 deposit guarantee that has become a EU de facto standard, is sure to unsettle markets and we expect the downward trend in Euro to accelerate next week.

GBP

Bank of England governor Mervyn King gave Sterling a much needed breather in a speech last week. Mr King stated that the BoE was not looking to push the currency down, and more or less endorsed its current valuation levels. The currency (which had probably reached temporarily oversold levels anyway) reacted well, and rose for the week against both the Euro and the dollar. Aside from the speech, there were little enough good news. Industrial production in January surprised to the downside, unwinding all the gains for the previous month and adding downside risk to the first quarter GDP numbers. We think that there is a very real possibility of flat or down growth for the quarter, and expect the BoE to increase the Gilt purchase target next month. The publication of the MPC meeting minutes later this month is therefore even more important than usual.

EUR

In the absence of market moving news, the Euro traded in a very tight range against most major currencies last week. The shocker came after market close on Friday. The Eu had decided to impose losses on bank depositors for the first time since the European crisis erupted. With a banking system whose liabilities exceeded seven times GDP, this was probably inevitable. However, the arbitrary decision to ignore the EUR100,000 guarantee per depositor, and make small depositors lose 6.75% of their money, may prove yet another blunder in the European response to the crisis. Even after the expropriation, depositors cannot yet withdraw their money, and it is unclear as this is written when, if ever, the “corralito” on Cypriot deposits will be lifted. Eurocrats were busy assuring depositors elsewhere that Cyprus was a special, one-off case, and that it had nothing to do with the rest of the periphery. Those words may have had a less skeptical reception had it not been the exact refrain we’ve been hearing from Brussels since the beginning of the Euro crisis.

USD

The week brought more reassuring economic data out of the United States. Retail sales, industrial production and weekly new jobless claims all provided nice upward surprises relative to consensus expectations. Wall Street strategists were busy revising upwards their expectation for first-quarter consumer demand end GDP growth to the 2-3% range we have been penciling in for some time for the quarter and the entire year. All eyes shift now to the FOMC meeting, followed by a policy statement next week. We expect the hawkish turn in the Fed communications to continue, and provide further support to the greenback’s bullish run.

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Written by Tom Tong

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