Rumours, Intrigue over Operation Twist?

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Writing this update over the past couple of weeks has made me think about whether the name needs to change to accurately reflect the subject matter. Maybe it should be the “Morning Misery” or “What’s still wrong with Europe update”? I don’t know. Answers on a postcard.

Yesterday kicked off in a typically downbeat fashion with traders pushing bond yields onwards in reaction to the downgrade of the Italian sovereign. These yields started to fall later on as it became clear that the European Central Bank was active in the market and buying up Italian debt in support. This started a day of euro strength.

A further single currency stimulant came from the Spanish. A short term debt auction was received well with bid-to-cover, demand by another name, rising although the yields were higher showing that traders wanted a little more bang for their buck. What it also means is that, should the ECB come in to the market to buy Spanish debt, driving yields lower then the traders can make a pretty much risk-free profit. Nice work if you can get it.

Even a poor ZEW business sentiment figure was unable to slow the euro’s march. The current situation component fell to the lowest level since July 2010 and the future expectations survey the weakest in 33 months. It may be that the headline figure was within spitting distance of the consensus that saved the euro.

The market then had another weird turn as rumours surfaced that the Swiss National Bank was looking to raise the floor that it had set on EURCHF not 3 weeks ago from 1.20 to 1.25. This cued another round of Swiss franc selling and euro buying. The SNB declined to comment on the rumours as they always do, even when blatantly making moves in the market. For what it’s worth I think it was a spoof on the part of the SNB and they got the market to move itself away from the peg. Well played.

The main economic news however was however the latest round of IMF growth projections that saw every country’s GDP projections for 2011 and 2012 downgraded. Growth in the UK was moved to 1.1% in 2011 and cut to 1.6% in 2012 while Germany’s 2011 was sliced to 2.7% and 2012 to 1.3%. Similar downgrades were done elsewhere with the IMF putting the chance of the UK economy moving into a double dip recession at 18% and the US at 38%. There was also a warning for the UK that austerity measures may need to be scaled back if growth is seriously hit. Seriously was not defined however and politicians on both side of the fence have been beating each other up ever since the report’s publication.

But equities and other risky assets remained higher and havens like the yen and gold were sold. Why?

Well, today is of course a Fed decision day. In fact a specially extended-meeting-to-talk-about-more-QE day. The market I reckon has fully priced in the delivery of something called “Operation Twist”. It is basically like quantitative easing – it’s purchases of long-term securities that are financed by the sale of short-term securities. This has the effect of driving down long term interest rates and hopefully making things like house purchases and business investment more attractive.

Will it work? That is the hundreds of billions of dollars question and it simply has to.

Other than the Fed we have the Bank of England’s minutes from its September meeting. We expect 3 members of the MPC to have voted for further QE and sterling to soften this morning as a result.

Indicative Rates Sell Buy
GBPEUR 1.1452 1.1478
GBPUSD 1.5683 1.5707
EURUSD 1.3675 1.3697
GBPJPY 119.60 119.85
GBPAUD 1.5260 1.5288
GBPNZD 1.9062 1.9094
GBPCAD 1.5579 1.5609
NZDUSD 0.8212 0.8236
GBPZAR 12.11 12.16
USDZAR 7.7181 7.7506
GBPPLN 4.9906 5.0318
EURJPY 104.24 104.48

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