ECB inspires risk appetite but caution warranted.
The weakness also represented a culmination of two months of broad based pressure on the greenback, as anticipation of these events has seen it give ground more or less consistently since before Ramadan. Heading into the new week, event risk remains high, but given what has been priced in by the market, we suspect that risk/reward could actually be turning more USD favourable.
From the Eurozone side the announcement of non-conventional measures by the ECB on Thursday led to a reduction in risk premiums for European assets, especially for peripheral sovereign debts. The ECB pledged to intervene in unlimited amounts to support the bond markets of Spain and Italy, through what will be called 'Outright Monetary Transactions' or OMT. This was followed on Friday by weaker than expected US August jobs data, which is now widely seen by the market as sealing the case for QE3 when the FOMC meets in the week ahead. The pincer movement saw EUR/USD rally from 1.26 on Thursday to finish the week at 1.28. Clearly, the rally reflects a further squaring of long-held outstanding short EUR/USD positions (see page 7), but when we examine the fundamentals on both sides of the equation we find plenty of reason to remain cautious about the sustainability of this latest move.
Eurozone governments n
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