Contagion is Now Reality: Euro Trades Heavy as Italian, Spanish Bonds’ Yields Climb

November 16, 2011
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Fundamental Headlines

Fed’s Fisher Sees Lower Odds of U.S. Easing – Bloomberg

Technocrats Step in Where Pols Fear to Tread – Bloomberg

Italy’s Monti Center Stage, France “Alarm Bells” – Reuters

Europe’s Rescue Funds Get Little Traction – WSJ

Euro-zone Ekes Out Growth – WSJ

European Session Summary

The transition to the new Italian government was expected to be painless relative to the transition that the new Greek government has endured. A smooth transfer of power would have done wonders for investor confidence, as a sign that Euro-zone politicians truly understand the gravity of the situation facing them. However, cooler heads have not prevailed, and indications from the sovereign debt crisis’ latest victim suggest that incoming Italian Prime Minister Mario Monti is facing headwinds forming a new government.

The continued political haggling has not helped investor sentiment. Italian and Spanish bonds continued to take a beating on Tuesday, with the former’s 10-year bond climbing back above the key 7 percent threshold earlier in today’s session. The European Central Bank was back in the secondary bond market soaking up these stale bonds, driving the yields lower ahead of trading in New York. Unfortunately, the collective markets’ greatest fear has materialized: contagion is now reality. The 7 percent threshold was supposed to be the line in the sand that the supranational European body would not allow Italian yields to cross, and for the second time in less than a week, Italian 10-year bonds were above this level. But for direct market manipulation, the 10-year bond would be well-above this level.

EUR/USD 5-minute Chart: November 15, 2011

Contagion_is_Now_Reality_Euro_Trades_Heavy_as_Italian_Spanish_Bonds_Climb_body_Picture_13.png, Contagion is Now Reality: Euro Trades Heavy as Italian, Spanish Bonds' Yields Climb

Charts created using Strategy Trader– Prepared by Christopher Vecchio

The Euro hasn’t taken kindly to these developments. On the heels of soft growth data out of the Euro-zone, which indicated that France would not meet its 2011 growth targets save a miraculously (and equally unlikely) strong fourth quarter, higher yielding currencies and risk-correlated assets were trading lower headed into North American trade on Tuesday. The EUR/USD was nearly 100-pips lower from Monday’s close, trading at 1.3544, at the time this report was written.

Pre-North American Data Summary

Ahead of the final trading session on Tuesday, at 13:30 GMT, there were two key U.S. data releases that helped slow the U.S. Dollar’s advance from the overnight. The more important of the two releases was the advance retail sales figures for October, which surprised to the upside. Sales jumped by 0.5 percent from 1.1 percent, better than the 0.3 percent forecast, according to a Bloomberg News survey. Likewise, the less volatile retail sales ex auto gas figure was strong as well, growing by 0.7 percent from 0.5 percent, against a forecast of 0.2 percent.

USD/CAD 1-minute Chart: November 15, 2011

Contagion_is_Now_Reality_Euro_Trades_Heavy_as_Italian_Spanish_Bonds_Climb_body_Picture_10.png, Contagion is Now Reality: Euro Trades Heavy as Italian, Spanish Bonds' Yields Climb

Charts created using Strategy Trader– Prepared by Christopher Vecchio

The data, which continued to show an uptick in consumption, is supportive of strong growth in the United States, as consumption represents approximately 70 percent of the headline growth figure. As such, the U.S. Dollar was sold off across the board, as investors’ concerns of a recession eased, if momentarily. The USD/CAD, perhaps the most sensitive pair to U.S. growth data, fell over 30-pips in the minutes following the release, before rebounding slightly ahead of the North American session open.

24-Hour Price Action

Contagion_is_Now_Reality_Euro_Trades_Heavy_as_Italian_Spanish_Bonds_Climb_body_Picture_1.png, Contagion is Now Reality: Euro Trades Heavy as Italian, Spanish Bonds' Yields ClimbContagion_is_Now_Reality_Euro_Trades_Heavy_as_Italian_Spanish_Bonds_Climb_body_Picture_7.png, Contagion is Now Reality: Euro Trades Heavy as Italian, Spanish Bonds' Yields Climb

Key Levels: 13:35 GMT

Contagion_is_Now_Reality_Euro_Trades_Heavy_as_Italian_Spanish_Bonds_Climb_body_Picture_4.png, Contagion is Now Reality: Euro Trades Heavy as Italian, Spanish Bonds' Yields Climb

Thus far, on Tuesday, the Dow Jones FXCM Dollar Index is higher, trading at 9801.61, at the time this report was written, after opening at 9764.13. The index has traded only higher, with the high at 9818.72 and the low at 9764.13.

— Written by Christopher Vecchio, Currency Analyst

To contact Christopher Vecchio, e-mail cvecchio@dailyfx.com.

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