Euro dips after questions over banking stress test

Accusations that the European banking system got the all-clear from a quack rather than a qualified doctor has the single currency return to under-the-weather status. A Wall Street Journal report says that some of the 84 banks that passed the European stress tests two months ago either excluded government paper issued by certain governments or understated their entire holdings on account of holding short positions in others. Risk appetite is suddenly off again after a comforting resumption for better economic data and an inspiring rally for global stocks late last week.

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Euro – You don’t need to read the WSJ report to understand its implications. The impact is easily seen in the level of the euro at $1.2750 this morning. The single currency started Monday’s trading over the long U.S. holiday weekend on a firm footing and reached $1.2918. But no sooner was the negative report posted to its website than the rally came to an abrupt halt causing the euro to slide. More bad news for the currency came from two fronts. First, German factory orders underwhelmed throughout July. Expectations for a gain of 0.5% were dashed by a monthly decline of 2.2%. Second, the Association of German Banks warned that the nation’s 10 largest lenders might need to raise €105 billion in order to comply with new capital regulations.

The view that the health of the banking system might have been a fudge has upset the applecart once again today. At this point there has been no counter-punch to the Journal’s accusation. But its message is clear – investors should be wary of the health of the Eurozone’s financial system. From a trader’s perspective the message is a little more succinct and one expects further punishment until authorities on the other side of the Atlantic speak out against the jibe.

British pound –The story took its toll on risk assets in general and has affected sentiment towards the British pound, which is trading lower against the dollar at $1.5325 from $1.5391 at Monday’s close. The recent weakness has now taken out the lowest point of last week’s trading for the unit. The euro slipped against the pound to 83.19 pence after a British Retail Consortium report showed retail sales during August rose at a pace twice as fast as during July for a 1.0% gain.

Aussie dollar – Not only did the Aussie have to take one on the chin on account of the WSJ report, which dented broader risk appetite, but the currency also had to deal with the implications of the formation of a government by Prime Minister Julia Gillard. Last weekend’s inconclusive election saw her scavenge for independent votes during the interim. It seems as though she has now found the necessary support to maintain her premiership, which means full steam ahead on the mining tax, which helped drive down the Aussie to 91.15 U.S. cents in early New York trading. The Reserve Bank today left monetary policy on hold and referred to a “somewhat uncertain” global economic outlook.

Japanese yen – The Bank of Japan also retained monetary policy on hold after its monthly meeting today. Rates were left at 0.1% while the emergency loan program was also left alone, which was no surprise after the central bank’s emergency summit last week boosted the overall lending amount. The yen continues its ascent against the dollar after the recent signal from the FOMC that they will seek to extend a maturing wave of mortgage bonds in its program of quantitative easing.

U.S. Dollar – The dollar is of course a willing safe haven in light of euro selling today. The dollar index has risen by 0.7% so far to stand at 82.61.

Canadian dollar – The Canadian dollar had performed very nicely since Friday’s U.S. labor market report indicated a better state of health for its biggest customer. However, the risk off attitude today is fast reversing the surge to 96.70 U.S. cents and has given way to selling down to 95.92 cents.

Andrew Wilkinson is a Senior Market Analyst at Interactive Brokers LLC

Note: The material presented in this commentary is provided for informational purposes only and is based upon information that is considered to be reliable. However, neither Interactive Brokers LLC nor its affiliates warrant its completeness, accuracy or adequacy and it should not be relied upon as such. Neither IB nor its affiliates are responsible for any errors or omissions or for results obtained from the use of this information. Past performance is not necessarily indicative of future results.

About the Author
Andrew Wilkinson

Andrew is a seasoned trader and commentator of global financial markets. He worked for several London-based banks trading cash and derivatives before moving to the U.S. to attend graduate school. Andrew re-joins Interactive Brokers following a two-year stretch at a major Wall Street broker-dealer as their Chief Economic Strategist. His coverage of stocks, options, futures, forex and bonds regularly surfaces in global media, and over the last several years Andrew has made many TV appearances on Bloomberg, BBC, CNBC and BNN and Yahoo Finance.

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