Draghi doesn't take any action...
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In This Issue.

* Draghi can't come through

* Focus shifts to US payrolls

* Kiwi set for another weekly advance

* China to hasten the convertibility of the renminbi

And, Now, Today's Pfennig For Your Thoughts!

Draghi doesn't take any action...

Good day. And welcome to Friday, I for one am happy to have the weekend just one day away. I don't know if it is a result of being out a little too late at the concert the other night or skipping my morning workouts to write the Pfennig; but I've had trouble getting going the past couple of mornings. I plan on enjoying a lazy weekend and hear the temps aren't supposed to get past 100 which will certainly be a relief. I just hope my wife and kids will cooperate with my plan for some relaxing (fat chance!!).

ECB President apparently couldn't get the Bundesbank to cooperate with his plan to 'do whatever it takes' to support the euro as he was unable to take any concrete actions to support the euro. I spoke to a reporter from Dow Jones yesterday shortly after the ECB announcement and told him the same thing I had been telling you Pfennig readers over the past few days; Draghi had set himself up for failure.

There was no way he was going to be able to deliver on the expectations which had been built over the days following his 'whatever it takes' speech. I really think he tried, but officials at the Bundesbank just wouldn't budge off of their position that the ECB should not increase its bond buying activities. That was one of the options which Draghi had floated, and is the most likely future path for the ECB. The ECB have purchased bonds in the past, providing support to the markets during the height of the credit crisis. ECB President Draghi would have loved to been able to announce another program, and hinted that the bank stood ready to take action on the secondary sovereign-bond markets, but no specific details were announced.

The other option which got a lot of press and increased the confidence of many currency traders was the idea to grant a banking license to the European Stabilization Mechanism or ESM. Granting a banking license would enable the ESM to directly intervene in the markets, but apparently this is not a simple decision, and instead is a legal matter. "We have a legal opinion saying that it (ESM) is not a suitable counterparty," Draghi said after the ECB meeting yesterday. Apparently there is a legal opinion from back in March of last year which ruled this option out, so all the excitement over the past few days in regard to this 'new' idea was misplaced.

Draghi's failure to follow through with an action plan caused the euro gap lower yesterday morning, dropping two and one half cents vs. the US$. The euro had briefly climbed past $1.24 just before the announcement, but quickly dropped to a low of $1.215 following the ECB press conference.

But the euro has rallied since this big drop, and is trading just about exactly where it was when I wrote the Pfennig yesterday morning. The single currency was helped by a couple of factors. First, ECB member Erkki Liikanen who also heads the Bank of Finland, came out and said the ECB is ready to take action in the bond markets. "When preparations are over, we are ready to act," Liikanen said today. "The ECB is always ready to act. The euro is irreversible."

The common currency also got some support from a report which showed retail sales in the 17-nation region unexpectedly rose in June. The EU statistic office reported retail sales gained .1% from May, when they rose .8%. Economists had forecast a decline, and the increase was a bit surprising given the fact retail sales in the US were reported lower earlier this week.

The focus of currency traders will now shift to the US where the labor department will be releasing the change in non-farm payrolls for July. The surveys are projecting an increase of 100,000 jobs for the past month, compared to an increase of 80,000 in June. Unfortunately this increase is still not enough to budge the unemployment rate from the 8.2% level it has been stuck at for the past couple of months. The rate climbed above 8% in February of 2009, the month following the inauguration of President Obama. Unemployment will definitely be a focus of the Presidential race, and I know the administration would love to be able to point to an improvement in the unemployment rate, but there doesn't seem to be much of a chance of that happening before the elections.

The July employment numbers will dominate today's trading and right now it looks like currency traders are predicting the numbers will be positive and show the labor picture is at least improving a bit here in the US. As I mentioned earlier, the euro has climbed back above $1.2250 and the dollar index has fallen back below 83.

The volatile South African rand is the best performing currency over the past 24 hours, appreciating over 1% vs. the US$. This is a good indication that currency traders are putting 'risk' trades back on. This view is further supported by the fact that only one currency has fallen vs. the US$ over the past day; the Japanese yen. This is a good indication that currency traders are moving funds out of their 'liquidity/safe havens and investing these funds back into currencies with a better potential return.

The kiwi is one of these currencies which has been favored by investors looking for higher yields. New Zealand's dollar is set for a third weekly advance and has climbed just over 1.28% vs. the US$ over the past month. The kiwi was helped by Standard & Poor which affirmed the small south Pacific nation's credit rating and said its outlook is stable. S&P affirmed New Zealand's AA sovereign rating citing its fiscal flexibility, resilient economy, and policy institutions conducive to swift and decisive policy reform. The NZ Reserve Bank will meet on August 7th, and is expected to keep rates unchanged at the highest level among major developed nations.

New Zealand, like its larger neighbor across the Tasman Sea, Australia, is partially dependent on a strong Chinese economy. New Zealand exports a number of different agricultural products into Asia, and a strong Chinese economy definitely provides support to the kiwi.

A report released by Baring Asset Management predicts Chinese officials will be taking advantage of the recent downturns in Europe and the US to hasten steps to make the Chinese currency more tradable. Chuck has long talked about the emergence of the Chinese renminbi as a challenger to the reserve status of the US$, and the research done by Barings supports his views. Rising sovereign debt in Europe, US, and Japan will limit the appeal of euros, dollars, and yen as reserve currencies, opening the door for the Chinese renminbi.

According to the report by Wilfred Sit, the Hong Kong-based chief investment officer for Asia at Barings, the Chinese officials will take advantage of the recent slowdown to hasten the acceptance of the renminbi. "It'll happen faster in light of all the things happening globally," said Sit. "The three major currencies aren't getting so much confidence. There will be more benefits if more trade is denominated in yuan (renminbi)".

Some Chinese officials told EU business executives back in September of last year that the Chinese currency would achieve 'full convertibility' by 2015. More recently, a researcher at the State Council's Development Research Center predicted the goal would be achieved by around 2020. No matter what the timing, the Chinese continue on a slow and steady march toward getting the renminbi fully convertible, and accepted as a global reserve currency. Need I remind you that EverBank continues to be one of the only banks in the US which offers FDIC insured deposit accounts denominated in the Chinese renminbi?

Then there was this. I always keep an eye on the opinions of the folks who run PIMCO, the globe's largest bond fund. I don't always agree with the opinions of Bill Gross and Mohamed El-Erian, but they definitely have the ability to move the markets so it is good to be aware of what they are saying. I want to share some highlights from an article written by El-Erian which appeared on Bloomberg today.

"The three central bank meetings this week - the BOE, ECB, and the Fed - made very good cases for additional stimulus measures, though they failed to specify what these would be.

Equities and certain bonds that had surged on the basis of last week's verbal assurances by central bankers and political leaders sold off. There was no panic given central bankers' promises to do more in the future should additional action be needed. This is what the standard narrative has been.

But it misses important context, and there is more at play here. The unfortunate reality is that, unlike during the financial crisis of 2008 and 2009, central banks can't be the saviors this time around for a struggling global economy. Other government entities, with better-suited policy tools, need to step up to the plate."

I absolutely agree with El-Erian, and wonder when the markets will realize the central banks are fresh out of ammunition in this fight against a global slowdown. It is going to take action by political leaders to correct their countries policies and reverse things. The central banks don't have any 'silver bullets' left. It is time for leaders to step up and lead instead of just kicking the cans down the road.

To recap. ECB President Mario Draghi wasn't able to follow through with action to back up last week's verbal support of the euro. This sent the euro dramatically lower, but it has since climbed back up erasing all of its losses. The focus shifts to the US this morning with the release of July's employment numbers. The unemployment rate is expected to remain stubbornly high. The kiwi is set to book another weekly gain as investors move back into higher yielding currencies. And finally, the Chinese are predicted to hasten the full convertibility of the renminbi and push it to become a competitor to the US$ for the global reserve currency.

Currencies today 8/3/12. American Style: A$ $1.0518, kiwi .8149, C$ .9979, euro 1.2256, sterling 1.5578, Swiss $1.0205. European Style: rand 8.2563, krone 6.024, SEK 6.7611, forint 227.43, zloty 3.3313, koruna 20.5717, RUB 32.334, yen 78.27, sing 1.2449, HKD 7.7549, INR 55.7563, China 6.3725, pesos 13.2592, BRL 2.0496, Dollar Index 82.887, Oil $88.24, 10-year 1.51%, Silver $27.285, Gold $1,595.60, and Platinum $1,397.63.

That's it for today, and for the week. Did you see that dominant showing by the US men's baskeball team last night? They absolutely clobbered the Nigerian team 156 - 83, scoring the most points ever in an Olympic basketball game. Just doesn't seem fair. Chuck will be back in the saddle on Monday after traversing the country over the past two weeks. I know I can speak for both Mike Meyer and myself when I tell you we will all be happy to have Chuck back. I grow more respect for the job Chuck does every day, as putting this Pfennig together wears me out. But I've certainly enjoyed being able to share my thoughts with all of you over the past two weeks. I hope everyone has a Fantastic Friday and a wonderful weekend!

Chris Gaffney, CFA

Vice President

EverBank World Markets



Posted 08-03-2012 10:59 AM by Chuck Butler
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