A raft of economic data and corporate earnings to take the focus off Portugal this week

Macro Outlook

The tremors that went through the financial markets last week following the news that a Portuguese Bank (Banco Espirito Santo) was to delay the payment of its debt suggests that guarding against complacency is something than needs proper consideration. It may not amount to much and the reaction of the some of the tier 1 banks suggest that the bank had enough liquidity and capital to cover any debt requirements. However, perhaps markets have been too complacent in recent weeks and actually this has been a wake up call. Sovereign yields on peripheral Eurozone bonds had fallen to extremely low levels, with some below even US Treasuries and UK Gilts. Equity markets too have been on an enormous run higher over the last few months without any real correction to speak of. Furthermore, because the VIX Index of volatility had seemingly become entrenched at multi-year lows for so long there had even been talk of finding a new gauge of “risk” in the market. Perhaps we needed a wake up call. The lack of growth in the Eurozone remains a significant problem for global financial markets. Last week we got a gentle reminder that complacency comes before a fall. Something for all investors to take heed of.

Must watch out for: Janet Yellen testifies to the Senate Banking Committee

Impact: After last month’s strong Non-farm Payrolls, investors speculated that it would mean that the Fed would begin to move to a more hawkish position on monetary policy. The latest Fed meeting minutes covered the meeting prior to the payrolls data, so this is the first time we will get Yellen’s views since that release. She is still an arch dove, remaining very cautious over economic recovery and although the data in the US is improving, do not expect any hawkish leanings in her testimony. Nonetheless, dollar traders will be ready to pounce on any hints either way.

Foreign Exchange

Following the flight into safe haven assets on Thursday, important support levels are being tested on some of the key major pairs. With the Japanese yen a major beneficiary of the inflows, the euro has been put under pressure again. This has left key supports at $1.3574 (on EUR/USD) and 101.30 (on USD/JPY) under pressure. Although safe haven flight is generally accompanied by a strengthening of the dollar, in foreign exchange when Dollar/Yen breaks through key support it is time to be concerned. As the US economic data has improved in recent weeks (especially Non-farm Payrolls) Dollar/Yen should be rising. The US economic recovery should accentuate the market’s view of the divergence of monetary policy outlooks of the Federal Reserve and the Bank of Japan and this should help to support the dollar. However Dollar/Yen stands on the brink of a 6 month closing low and threatens to breach some significant technical support. A strengthening yen is just one danger sign, but is a key reflection of investor appetite for risk.

WATCH FOR: It could be a volatile week in forex. Major currencies will be impacted by inflation data out of the UK, Eurozone, New Zealand and Canada. Furthermore, Chinese GDP will have a big impact on the commodity currencies. US dollar traders will be looking at Retail Sales, the housing data and Michigan sentiment, all the while keeping an ear open to Janet Yellen’s latest thoughts on the economic recovery.

Indices

US earnings season has got off on a mixed footing. Alcoa beat estimates and with the shares up 6%, Wall Street rallied. However the first of the big banks, Wells Fargo, missed expectations on Friday and the S&P 500 struggled. How much of a read through this could be for this week’s crucial banking results is uncertain, however Wells Fargo is considered to be one of the strongest in the sector and this does not bode well for indices that are already feeling the strain from a flight to safe haven assets. Despite looking fully valued, the bulls remain in control, but with more than 50 sessions without a 1% decline some might say there is a complacency, with people still pointing to the low level of the VIX as evidence. Since Thursday, the VIX has jumped strongly and a close above 12.65 would be a six week high and could be the early sign that US investors are getting jittery. The performance of Wall Street is significantly outstripping the European markets and earnings season is historically supportive, however weak banks earnings would put the pressure on. European markets will hope that is not the case.

WATCH FOR: US consumer and housing data has been improving in recent months and this trend will be tested this week by Retail Sales, Michigan sentiment and the Building Permits. Janet Yellen could give the markets some added support on Tuesday if she maintains her dovish stance, whilst the release of Chinese GDP on Wednesday will impact on China plays and markets with heavy natural resources weighting.

Other Assets: Commodities & Bonds

Peripheral Eurozone bond yields spiked significantly higher on Thursday as investors were spooked by the prospect that the Eurozone banking sector remains under strain. Announcements to calm the concerns of the markets have resulted in the spreads over German Bund yields beginning to calm down, however investors will be alert now and the complacency that had crept in to the bond markets of Italy, Greece and of course Portugal is unlikely to return, and this should underpin the yields for the time being.

Safe haven assets have been strong in the wake of the banking crisis at Banco Espirito Santo. This has seen a flood into precious metals of gold and silver, both of which have moved to four month highs. A lack of physical demand has been a reason to be sceptical of recent gains, but inflows into the SPDR gold ETF have been picking up and support the gains.

WATCH FOR: Safe haven gold will still be susceptible to news of possible contagion, but the sheer risk should be supportive. This factor will also help to underpin peripheral Eurozone sovereign bond yields whilst also driving safe haven debt yields lower.