EU Leaders Ease Debt-Crisis Rules On Spain
Comment of the Day

June 29 2012

Commentary by David Fuller

EU Leaders Ease Debt-Crisis Rules On Spain

This report from Bloomberg discusses the conclusion to the 19th European Summit which has clearly caught many investors by surprise today. Here is the opening:
Euro-area leaders agreed to relax conditions on emergency loans for Spanish banks and possible help for Italy as an outflanked German Chancellor Angela Merkel gave in on expanded steps to stem the debt crisis.

After 13 1/2 hours of talks ending at 4:30 a.m. in Brussels today, chiefs of the 17 euro countries dropped the requirement that taxpayers get preferred creditor status on aid to Spain's blighted banks. They also opened the way to recapitalizing lenders directly with bailout funds once Europe sets up a single banking supervisor. Stocks and bonds in Spain and Italy surged and the euro rallied.

The politicians struggled for consensus on reducing market pressure as surging borrowing costs in Italy and Spain stoked concern among investors and policy makers around the world that the currency union threatened to splinter and risk damaging the global economy. Euro governments were granted access to rescue loans without having to relinquish control of their economies.

"We agreed on short-term measures that should apply to Spain and Italy," said Luxembourg Prime Minister Jean-Claude Juncker, who heads the group of euro finance ministers. "We will keep all options open to do the interventions that need to be done to calm the situation. There is a whole array of possible interventions and measures."


The gathering marked at least the fourth time in the past year that the guardians of the euro faced a make-or-break summit to restore confidence in their currency bloc. They have struggled so far in vain to contain the financial crisis that began in Greece in 2009. The turmoil claimed its fifth victim this week when Cyprus sought a bailout.


Countering Germany

"Relative to the gloomy expectations just prior to the summit, and at around midnight as the summit progressed, more was achieved than was widely expected," David Mackie, chief European economist at JPMorgan Chase & Co. in London, said in a note. "Nevertheless, this is still a long journey we are on, and it will be bumpy at times."

Hollande put French backing of a German-inspired deficit- control treaty on hold, and Italy and Spain withheld initial approval of a 120 billion-euro ($149 billion) growth- boosting package until Germany authorized steps to calm their bond markets.

Italian Prime Minister Mario Monti welcomed the result, saying the agreement to consider short-term steps to ease borrowing costs "could be useful to Italy and many other states, too." Hollande said there was "no blackmail, no pressure" from Italy and Spain.

Monti didn't get everything he wanted, Dutch Prime Minister Mark Rutte, a Merkel ally, told reporters. Italy "wanted direct bond buying by the aid funds in the secondary market," he said. "That's not going to happen. They wanted an interest-rate cap. That's not going to happen either."

No Debate

Germany had previously balked at changing the order of seniority on as much as 100 billion euros in emergency loans to Spanish banks and at committing to direct sovereign-debt buying through the euro-area bailout funds, saying on June 21 that such a move is "not up for debate."

David Fuller's view The previous summits achieved so little that public expectations for this one are minimal. Therefore should investors back the formbook and anticipate a disappointing conclusion on Friday, or should they take a contrarian view?

Your guess is as good as mine because we are talking about politics rather than economics. However, we do know that the pressure to agree on a plausible programme for saving the euro is increasing. George Soros' interview comment that we have 3 days to avoid "Fiasco" will resonate with many.

If European leaders' avowed support for the euro project is genuine, they should be able to agree on a credible plan for fiscal union. Now that really could surprise the markets.

It certainly has surprised global investors, judging from the many upward dynamics that are occurring in so-called risk-on assets, and the corresponding downward dynamics in so-called risk-off assets. We are seeing some dramatic short covering in stock markets and a number of commodities today.

Consequently, this is a good time to review a number of markets so that we can develop a roadmap for what comes next.

Asian markets were still open when the European summit details were first announced. Although Asia is possibly the not the best place to assess arcane European political issues, the news did reverse early declines for most stock markets. Japan, which is currently enjoying a tailwind following the Diet's appointment of two new BoJ board members who favour monetary easing, had another strong day. The Nikkei (weekly & daily), Topix Banks Index (weekly & daily) and Second Section (weekly & daily) which often leads, all extended their gains. If they can hold at least half of this rally during the next reaction and consolidation, I would continue to give the upside the benefit of the doubt.

India (weekly & daily) was another laggard until this month, has been helped by news that Prime Minister Manmohan Singh, the architect of landmark economic reforms in 1991, has taken charge of the Finance Ministry. Few people have had a good word for India over the last 18 months, although the outstanding investment manager Hugh Young mentioned that he liked a number of Indian companies in this profile. The dynamics of this month's rally have been powerful and we would now need to see a close back beneath 17,000 to question upside momentum beyond a brief pause, and only a break of this month's weekly key reversal lows would look like reviving the previous bear trend.

China's Shanghai A-Shares Index (weekly & daily) has been a serial underperformer for nearly three years but it remains historically cheap at a time when incremental reflation is occurring and there was a small upside key day reversal today. China looks very oversold but an eventual move above 2600 remains necessary to confirm that a significant recovery is underway. The Hong Kong Hang Seng Index is firmer and a close beneath the June low would be necessary to offset sideways to higher ranging. Most ASEAN markets have shown overall relative strength this year and only breaks of the June lows would offset the medium-term bullish outlook.

The June lows are very significant for most stock markets, not least those of Europe. Today's upward dynamics for Euro STOXX Banks indicates that a recovery is possible although we will need some good upside follow through commencing next week to indicate more than just short covering. The same can be said for Italy and Spain and the encouraging news here is that they have extended this month's rally. The UK (weekly & daily) retraced some of today's gains but 4 consecutive weeks to the upside have bought a little more breathing space above the important June low. The Euro STOXX 50 Index (weekly & daily) has extended this month's recovery above the June low and offers some of the cheapest valuations in big-cap equities. A close beneath this week's low near 2020 would be required to offset upside scope, and instead, indicate an upside failure.

In terms of its leash effect Wall Street is by far the most important stock market. Judging from these charts of the Nasdaq 100 (weekly & daily), S&P 500 (weekly & daily) and Transport (weekly & daily) indices, talk of a bear market, as we have heard from a number of US forecasters, is certainly premature while the June lows hold. All three indices show broadly rising trends on their weekly charts; they are currently above their 200-day MAs, which are turning upwards once again. While they remain above their June lows I would give sideways to higher ranging the benefit of the doubt.

US 30-year T-Bonds have lost upside consistency and a close above 150 is now required to delay current scope for a further correction.

The unweighted Continuous Commodity Index (Old CRB) (weekly & daily) fell steadily during March, April and May before predictably finding support near the psychological 500 level where lateral trading is also evident. It subsequently lost downside momentum and has begun to trend higher in a process of mean reversion towards the declining MA. The last leg of the more than 2-year downtrend was the biggest and lengthiest, so we have probably seen a low of at least medium-term significance.

Among individual commodities, gold, silver, platinum and palladium have severely questioned my support building hypothesis recently but today's upward dynamics have partially restored its credibility. Closes beneath the recent lows are now required to delay further scope for sideways to higher ranging. Similarly, crude oil (Brent weekly & daily - WTI weekly & daily) have checked their overextended declines with large upward dynamics. Here also closes beneath the recent lows would be required to offset further mean reversion towards the declining MAs. Today's upward dynamic for copper (weekly & daily) demonstrates at least short-term support above last year's lows and a close beneath 324 is required to reinstate the downward bias.

Conclusion - Plenty of people will suspect that today's dramatic market action is a one-day wonder. That is not my view although in the realm of anything is possible, it could be. Even if markets extend today's action next week, there are likely to be plenty of sceptical views. That would be a reflection of recent bearishness, and extremes of sentiment are usually a contrary indicator. I will back today's moves until or unless they are countermanded by price action. In markets, once the pendulum has been pushed to an extreme, it can swing rapidly and sometimes persistently in the opposite direction.

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