SCOREBOARD: ECB workaround

Markets rallied overnight following the ECB's confirmation of a bond-buying program for the eurozone.

Outright Monetary Transactions is the official name of the program, well flagged but announced formally last night as expected.

So we already knew that the ECB would buy bonds of one to three years (because that isn’t state financing apparently). But the new information, that I saw at least, was that it will be done without limit, although that’s not to say this decision is surprising (the fact they didn’t cut rates was surprising though, they left them at 0.75 per cent).

All Spain and Italy need do now is ask for a bailout and that, ultimately, is what will determine when the program starts.

I should mention that the Bundesbank dissented on the grounds that bond buying is state financing – even at the short end. Otherwise everyone else on the ECB’s Governing Council agreed to the plan.

Need I say it? Risk on!!!! Although it wasn’t with some of the usual gusto that we’ve seen and crude markets in particular ignored the decision and very solid data flow – instead opting ease some, only a bit -0.5 per cent to $94.9 - but still I am surprised given the nights events. Copper too was off about 0.5 per cent although gold put on another $9 to sit at $1703.

Elsewhere though the decision was greeted with glee and in Europe, the Dax surged 2.9 per cent, the CaC was 3.1 per cent higher and the FTSE rose 2.1 per cent. Over in Spain and Italy stocks rose 4.9 per cent and 4.3 per cent respectively and their bonds rallied hard. Short end bonds of around 2-year maturity saw yields drop about 20 bps apiece to 2.86 per cent for Spain and 2.37 per cent for Italy. 10-year yields fell 15 bps and 20 bps respectively to 5.99 per cent and 5.2 per cent. So far so good.

Whether you think this will work or whether you think it's just ‘kicking the can down the road’ depends on your view of the crisis. If you think it is truly a debt crisis (or a crisis of solvency) then it won’t work, because no matter how low yields go, debt is debt. They have too much of it and they’ll never repay it. If like me and Europe’s leaders, however, you think the crisis is just an irrational bout of market hysteria driven by a lack of understanding of debt and economics more generally – or a liquidity crisis – then this will work a treat.

Although I have a lot of sympathy for the Bundesbank and they are right ultimately – it is bad policy. Either way I doubt it’s the end of the conversation unfortunately. Three track CD remember – year in, year out.

US punters followed the European lead and the S&P500 shot up at the open, most of the gains put down after the first couple of hours. It was steady trading from there and at the bell the index was 2 per cent higher (1432) which is the highest level since January 2008, the Dow was just under that at 1.9 per cent (13292) which is the highest since December 2007, while the Nasdaq was 2 per cent higher as well (3131) which just happens to be the highest level since November 2000. There was the added bonus is the US of some decent data too. The non-manufacturing ISM index which represents about 80 per cent of the economy, showed that 80 per cent of the economy accelerated in August – the index up to 53.7 from 52.6. Similarly the ADP employment report suggests some upside to payrolls tonight when it showed jobs rising just over 200k for August which was a good deal stronger than the market forecast for a 140k increase. Finally Jobless claims were a touch weaker in the week to September 1 – 365,000 from 377,000 and while that is only a modest fall it is inconsistent with stall seed growth and is in fact consistent with solid employment growth.

We even saw some decent moves on the US treasury curve for a change and the 10-year yield rose 7 bps to 1.68 per cent, the 5-year was 7 bps higher (0.68 per cent) while the 2-year is at 0.27 per cent. Aussie futures dropped eight to nine ticks apiece, with the 3s at 97.49 and the 10s at 96.91.

As for forex, we saw some solid moves on the Australian dollar, up 50 pips to 1.0280, while the euro actually didn’t end much changed at 1.2632. Indeed the unit dropped nearly a big figure after the ECB meeting, before rebounding in subsequent trade. Sterling was then at 1.5932, with yen at 78.86.

Bits and pieces otherwise – Spain sold of some bonds overnight at sharply lower yields – 2-year down to 2.798 per cent from 4.7 per cent in June. Then we saw German factory order rise 0.5 per cent in July after a 1.6 per cent fall. The BoE met and did nothing and that’s probably about it.

Looking at the day ahead there isn’t much for our region. Australian trade data for July is due out at 1130 AEST but then Australian data doesn’t seem to matter. Many Australian economists instead suggest you should dismiss the strong broad-based economic growth that has been evident in the national accounts and other indicators for years now and, by pure coincidence the very low unemployment rate over that period.

Instead you should accept that the economy is actually weak and their forecasts that it will deteriorate further – just because. They argue that "it’s hard to believe” strong growth and a low unemployment rate indicate a strong economy. The problem with that naturally is the incredibly poor forecasting track record of these economists. These forecasters have been wildly inaccurate for over 4 years.

Outside of Australia we get German trade data this afternoon followed by industrial production tonight. The UK also releases industrial production and producer prices, although the big one of course is the US payroll figures. The market looks for an increase of about 130,000 in August with the unemployment rate forecast to remain steady at 8.3 per cent.

That’s about the lot, have a great day and a restful weekend…

Adam Carr is a leading market economist. See Business Spectator's glossary for definitions of technical terms used in SCOREBOARD articles.

@AdamCarrEcon on Twitter.

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