SCOREBOARD: Euro punch

Markets continued to gain as a Spanish bailout looked more likely, while pressure on Italy grew.

The market mood remains positive for now, but sentiment is fragile and can change on nothing. Without any truly disastrous news or data it seems punters are still bathing in the afterglow of the US jobs report and the possibility that Spain might seek monies from the bailout funds.

Italy too is being pressed to do this by the way, and if the Europeans don’t won’t to drag this on for another year and they are set on this path, then they are best advised to do it in tandem. There was a bit of good news on that front, although with more medium-term implications.

The German opposition (Social Democratic Party) has called for a referendum to change the German constitution, so as to allow for jointly guaranteed eurozone bonds and a combined fiscal union. This is big, as there is a general election next year and if Germany follows the European pattern, the SPD will probably be in government after that.

The SPD at least seem to understand the issue, or at least what isn’t the issue. As I have argued for some time it’s not debt, it’s not a fiscal crisis for the region. Sure Greece had a problem. But not Spain, not Italy – Spain’s metrics are good and the liquid, financial assets that these countries hold are enormous. The SPD recognise this. But it’s not a balance of payments crisis either like others argue. This is even more ludicrous.

The crisis is that financial markets are unstable and irrational – overcome with fear. Policymakers, especially central banks, are contributing to this. And this is what must be combatted. In any case we saw Spanish and Italian bond yields ease further and Spain’s 10 year bond fell about 12 bps to 6.71 per cent – although that is still about 100 bps higher than what they were just a few months ago – and the 2 year is down about 46 bps to 3.06 per cent. Italy’s 10 year was down a few bps and sits at 5.97 per cent.

Against that backdrop, some not so bad earnings reports sparked solid gains on the European bourses, with the Dax up 0.8 per cent, the CaC up about the same, while the FTSE100 rose 0.4 per cent. Spain’s stock market outperformed all of that, rising 4.5 per cent. Over in the US, price action initially followed European markets and stocks were bid from the open. Indeed at the high, stocks were up 0.6 per cent (on the S&P500).

In the last half hour though, the offer was put on and so in the end, the S&P500 closed only 0.2 per cent higher (1394). Earnings were generally better than expected, especially in the tech space (companies like Cognizant Technologies), which is why we saw the Nasdaq close 0.7 per cent higher (2989), while the Dow was 0.16 per cent higher at 13117.

For commodities, modest gains were recorded and crude is 0.8 per cent higher to $92.1, gold is about $4 higher to $1610, while copper is 0.4 per cent higher. In the forex space, the Australian dollar is broadly unchanged at 1.0565 (high of 1.0591). The euro is about 25 pips higher to 1.2400, while sterling is at 1.5601 and yen at 78.22

Finally, for the price action we saw US Treasuries sell off a touch and the 10 year yield rose just under 2 bps to sit at 1.57 per cent. The 5 year is at 0.64 per cent and the 2 year is at 0.24 per cent. Aussie futures in turn were up a tick or so with the 3s at 97.28 and the 10s at 96.855.

So, for the Aussie market today it should be ok and the SPI suggests further modest gains in our session, with that index up 0.3 per cent to 4242.

Of course we have the RBA’s meeting at 1430, and the consensus is that no rate cut will be forthcoming. I think that’s right, although as I outlined yesterday, the board’s erratic behaviour and decision-making framework means that we can’t rule out a cut at any time.

Notwithstanding this, there is clearly no case for a cut (nor has there been).

Domestic growth is well above trend, global growth is at trend and expected to remain so, and the unemployment rate is low. While inflation is low, the fact that the moderation is mainly all about tradeables means that it is temporary and is likely due to currency effects and food prices. Looking forward, and the RBA board should be doing this, it is unlikely inflation will remain as low. Interest rates are not currently calibrated for this possibility and are on a recession setting.

Outside of the RBA’s decision we see team GB’s industrial production figures tonight, while the Europeans release Italian June quarter GDP and German factory orders.

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

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