The Daily Prophet: Euro Traders Learn to Read Between the Lines

Connecting the dots in global markets.

If you missed out on the euro's rally because you thought European Central Bank President Mario Draghi was leaning dovish at a news conference Thursday after policy makers decided to keep interest rates unchanged, you're forgiven. After all, Draghi emphasized several times the need for patience and evidence that wages and inflation are on the rise before winding down stimulus measures.

All that would normally weigh on a currency. But what Draghi didn't do was dwell on the recent strength of the euro, other than to say it had received “some attention.” For traders, that was a green light to push it above $1.16 for the first time since May 2016. The euro ``is spiking because Draghi has not been able to put 'FX' and 'policy' into the same sentence,'' Steven Englander, head of research at Rafiki Capital  Management, wrote in a research note. Of course, the currency got an added boost when the dollar fell on news that Special Counsel Robert Mueller was looking into President Donald Trump's business transactions as part of a probe into the Trump campaign’s ties to Russia, but by then there was no turning back for the euro. The Bloomberg Euro Spot Index has now gained 8.15 percent from its low on April 14.

Strategists are quickly redoing their math on how high the shared currency will go. ABN Amro Bank's Georgette Boele figures it could climb to $1.1714 in short order, according Bloomberg News' Katherine Greifeld and Lananh Nguyen. HSBC's Daragh Maher is targeting $1.20 by year-end, a level it hasn't seen since January 2015.

Terrible. That's how one economist summed up the U.S. government's auction of $13 billion of Treasury Inflation-Protected Securities on Thursday. Investors submitted bids for 1.98 times the amount offered, the lowest so-called bid-to-cover ratio since July 2008. The auction was the first for securities that protect investors against rising inflation since the government said last week the core consumer price was up just 1.7 percent in June from a year earlier, the smallest increase since early 2015. "The auction was terrible and it isn’t clear if this is an issue with demand for TIPS or if this is simply the result of a quiet summer afternoon with many players on vacation,” said Thomas Simons, an economist at Jefferies. Auction metrics amount to “one of the bigger setbacks at a TIPS auction in several quarters,” said Jim Vogel, a strategist at FTN Financial.

Financial institutions usually wait until they release quarterly earnings before selling debt. That's no surprise. But what is notable is that, this time, they issued $31 billion of investment-grade bonds, the most in at least three years, according to data compiled by Bloomberg going back to 2014. There are a couple of ways to read this. One is that since banks are on the front lines of the economy, they figure that now is the time to borrow because growth is strengthening and borrowing costs are only going to rise. Investors are demanding an extra 82 basis points in yield to own bonds of financial institutions instead of government debt, the narrowest spread since early 2015, Bloomberg data show. The other way to read this is that the banks are just taking advantage of insatiable demand from investors who don't see growth or inflation picking up anytime soon. Given that almost all bond markets are back in the black this month, the latter is likely the reason behind the spurt of supply. JPMorgan, Wells Fargo, Citigroup, Bank of America, Goldman Sachs and Morgan Stanley have all tapped the debt markets in recent days, according to Bloomberg News.

It was close, but the MSCI Emerging Markets Index of stocks managed to eke out its ninth straight increase. That's the longest rally since April 2015. The 0.02 percent rise in the index was the smallest of the current streak. Still, that brought the index's gain for the year to 23 percent. More investors and strategists see emerging markets and their increasing levels of foreign-exchange reserves as a sort of haven given the political turmoil in the U.S. and parts of Europe. Manulife Asset Management senior Asia strategist Geoff Lewis just wrote in a research note that emerging market equities will offer some of the best returns among stocks and bonds over the next five years. Global stock markets are likely to post low- to mid-single digit returns to 2021, with the risk of a correction in U.S. equities within three to 12 months, Lewis wrote in the note, according to Bloomberg News' Colin Simpson.

After sinking into the low $50s a metric ton as recently as mid-June, prices for iron ore have surged above $70 amid signs of stronger-than-expected demand in China, the world’s largest steelmaker, according to Bloomberg News' Molly Smith. Output of the alloy by the country’s mills expanded to a record in June as steel prices rose, supporting producers’ profits as well as benefiting miners including Rio Tinto Group and BHP Billiton. “The steel market should soften over the coming months, facing both cyclical and seasonal headwinds,” Bank Julius Baer analysts wrote in research note this week. “The cyclical backdrop is unlikely to get better and the property market should start rolling over following months of tightening regulation.” Before iron ore rose back into the $70s this week, Goldman Sachs flagged its expectation for weaker prices. The commodity will drop as supply rises, the bank said in a research note dated June 29, predicting an average of $47 next year.

When the Bank of Canada raised interest rates last week, becoming the first Group of Seven country to join the U.S. in doing so since the financial crisis, the central bank said future increases will be "guided" by the data. That gives Friday's inflation report added significance. The median estimate of economists surveyed by Bloomberg is for a 0.1 percent decline in the consumer price index for June. Canada's bond market has been among the worst performers over the past month, with the yield on 10-year government notes rising to about 1.90 percent from about 1.50 percent. Its stock market is also an underperformer, with the S&P/Toronto Stock Exchange Composite Index little changed for the year. At least currency traders are happy, with the Canadian dollar starting to strengthen against most of its peers.

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