ECB Facility Fails to Unfreeze Liquidy, U.S. Dollar Rallies
• Bernanke Prods Savers to Become Consumers – Bloomberg
• ECB Lends Banks $645 Billion, Exceeding Forecast – Bloomberg
• Confidence Boost from ECB Lending Fades – Reuters
• China Considers Letting Pensions Invest in Domestic Stocks – WSJ
European Session Summary
The rally the past few days was certainly interesting. But before that is dissected, it is worth to take note of some background information. As per the Commodity Futures Trading Commission’s Commitment of Traders report, there are a record number of net Euro short positions among speculators – that is to say, the short EUR/USD trade is very crowded. While there’s little reason to go into the minutia of short covering, the take away should be that it would take a substantial event to push the EUR/USD lower, while it would be much easier to push the EUR/USD higher: traders would just need to exit their short EUR/USD positions instead of opening new long EUR/USD positions.
Additionally, interbank lending costs had not improved over the past few days despite the rally in higher yielding currencies and risk-correlated assets. The Euribor-OIS 3-month spread, the rate at which Euro-zone banks lend unsecured funds to one another, remains elevated near its yearly high and its highest level since 2009. In terms of the trend, the last time the Euribor-OIS 3-month spread was on the rise and was this elevated was the week after Lehman Brothers collapsed in September 2008.
Finally, taking a look at credit markets, the spread between Italian and Spanish bonds and their German counterpart have not tightened as expected following today’s developments. Earlier, the European Central Bank announced it would lend Euro-zone banks €489 billion over the next three years. While the actual figure exceeded the forecasted result – loans totaling €293 billion – the fact that 523 banks used the facility suggests that the system may be weaker than previous anticipated. While the ECB had hoped that banks borrowing at low rates would buy sovereign debt, it appears they are using the perceived bullish opportunity to jettison risk.
EUR/USD 5-minute Chart: December 21, 2011
Charts created using Strategy Trader– Prepared by Christopher Vecchio
Overall, it is safe to say that the event has been digested as net-negative. While higher yielding currencies, such as the Australian and New Zealand Dollars, as well as the Euro, found significant bids and rallied substantially leading up to and shortly after the ECB facility announcement, they soon sold-off and bowed out to the U.S. Dollar. In fact, the U.S. Dollar (Ticker: USDOLLAR) rallied as much as 0.86 percent in the hours after the ECB announcement.
This appears to be another ‘buy the rumor, sell the news’ type of event, where holding riskier assets leading up to the event proved fruitful, and selling riskier assets in favor of lower yielders, such as the U.S. Dollar, after the event was the best course of action.
24-Hour Price Action
Key Levels: 14:00 GMT
Thus far, on Wednesday, the Dow Jones FXCM Dollar Index is slightly lower, trading at 9965.42, at the time this report was written, after opening at 9972.95. The index has traded mostly lower, with the high at 9980.09 and the low at 9894.82.
--- Written by Christopher Vecchio, Currency Analyst
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