Ralph Shell @ 12:42 PM, Wednesday January 19 2011
There is nothing like a swift bull move in a futures markets to get the attention of speculators. In the case of the euro, a sharp sell off preceded the rally, setting the market up for a rally from under 1.29, quickly, to better than 1.35. Since the open interest went down a couple day, this means some of the shorts exited the markets, but over the partial holiday weekend, the volume went up almost 6k contracts to a total of 189k contracts of futures. Even more revealing of the speculator's interest was the total trade on the Monday holiday, and Tuesday was 541k, or 2.85 times the total futures OI in the euro.
Euro Banker support for the debt auctions, combined with the impression given by the governments that depletion in the money from the bail out fund of the peripherals would be quickly replenished, calmed the euro doubters. Combine this with the continued lackluster US economic data, and once more a rout of the USD has commenced.
The total futures OI was up about 21k contracts, as reported this morning. The biggest increase was in the pound, up almost 9k contracts. The pound, like the euro, had been a big favorite of the bearish specs. Two weeks ago they were short over 20k contracts of the pound. The run up from close to 1.54 to over 1.6050 probably got started with the shorts getting squeezed, but the up in the OI reported now shows we have new longs moving into the pound.
Part of the strength in the pound versus the USD, is concern that the current British inflation rates will force the Bank of England to increase the bank rate. The British CPI number released yesterday showed a 3.7% y/y increase well above the BOE target rate of 3%. With some of the new government's austerity programs only recently commencing, and the higher taxes starting the first of 2011 yet to impact the economy, any new data will be carefully weighed by speculators, as well as the MPC of the Bank of England.
Is a rate hike in the UK already discounted by the market? Currently US 2 year treasuries are yielding .56%, a healthy discount to the British rate of 1.36%. Further down the yield curve, 10 year notes are 3.33% versus 3.64% in the UK. The US yield curve is much steeper, but is this caused by Bernanke's QEII caper, or is it the markets' view that the chance for a US recovery is bleak?
Certainly with the global recovery chugging along, you would think that the safe haven appeal for the US Treasuries taper off but that was not the case in yesterdays TIC Report. The November increase in the purchase of US debt was $85.1B, well above the expected level, and the $29.8B in the previous period.
Is there are trade in the pound now that we have approached the 1.60 level? Obviously the trend has been up, but we all know trends come to an unruly end, often with too many people playing 'the trend is your friend' game. We also have nine higher market sessions, an unusual phenomena. There was another example of nine higher days in the pound back in early August. The August bull run was followed by several days of churning, and then a break. During August the pair failed to clear the 1.60 handle, but the recent run up eclipsed that psychological barrier.
It is tempting, as a part time contrarian, to fade the run up above the 1.60 level. You would expect some selling to develop at this level but the market's ability to stage this rally should be respected. It is probably best to wait for a few days to see how the market acts, and to see if the open interest continues to build. The short side looks interesting but we choose to be patient.
Author: Ralph Shell - ForexRazor Analyst - Graduated from a small Ohio liberal arts college. Graduate studies in economics and history at Duke University. Ten years experience trading cash commodities in domestic and export markets. Former commodity analyst with Merrill Lynch in Chicago. Member of and floor trader at the Chicago Board of Trade for 18 years.