An early S&P downgrade of Italy, rumors of corporate withdrawals from European banks and talk of a Greek referendum on euro participation did not make for a promising start to the day. But after market participants brushed aside the Italy downgrade and rumors were denied, bids finally started to emerge and a short-covering rally ensued. The rally was then accelerated on favorable auction results out of Spain and Greece, news of a Greek coupon payment and reports of an upping of Japanese contributions to the EFSF.
Looking ahead, the US economic calendar will likely inspire volatility for the remainder of the day, while investors also begin to focus on the highly anticipated FOMC rate decision due on Wednesday. At this point, there has been a good deal of speculation as to whether a third round of quantitative easing will be implemented and it seems as though anything short of additional monetary easing will be construed as risk negative. We are of the opinion that the Fed will stop short of any formal introduction to QE3 but will at the same time appease investor concern through the mention of alternative strategies that promote appropriate stimulus to inspire recovery in the US economy.
Overall however, the key focus for investors remains firmly anchored in the euro-zone. Risk for a Greek default remains high and the banking sector is still looking quite fragile. As such, any rallies in risk correlated assets should be taken with a grain of salt and risks remain for additional deterioration in the current market environment.
Joel Kruger has over 10 years of experience in the currency markets in addition to his background in law. Blending fundamental and technical analysis, Joel’s reporting considers a variety of economic and financial cross-currents to give trader a comprehensive assessment of forex market activity. Joel covers the European and Asian market sessions for DailyFX.