Which is worse: The fact that the WHO raised its pandemic alert to the highest level since its threat system began in 2005 or the WSJ report that both Bank of America and Citigroup may need more capital after the stress testing? The World Health Organization said it’s too late to contain the flu outbreak, which has so far claimed 152 deaths in Mexico and has currently yielded 73 confirmed cases of swine fever. Media reports say that the two major U.S. banks fingered as likely having post-traumatic stress disorder will say the tests were unfair and will argue their cases vigorously. Currency markets are more stable this morning after investors earlier in the week bought yen and dollars.
While there can be no mistake about the potential devastation that the infection could cause, the rush to quickly close riskier positions and ask questions later seems to have eased. The Mexican peso has steadied perhaps due to the fact that IMF reserves are sitting squarely behind the government. In the year prior to Lehman’s bankruptcy the Mexican peso bought anywhere between ¥9.00 and ¥11.00. Once the bank collapsed and confidence went into freefall the peso declined to just above ¥6.00 Since equity markets rose after bottoming in March the peso had risen to ¥7.70, but yesterday’s fallout saw it collapse to ¥6.70.
Investors over the past decade have been subject to a string of major events whose first round shock impact turned out to be short-lived and in this regard it’s encouraging to see common sense prevail. Given the sensitivity of the outbreak to human traffic disruption, it’s understandable to see weakness in the Australian dollar, which also counts tourism as a key export. But the decline to just under 70.00 U.S. cents today was again short-lived with dealers clearly expecting the pandemic to ultimate fall off the face of the earth.
While all sorts of arguments can be strung together covering the likely negative impacts of slowing trade, we’d still argue at this stage that the recovery of the financial system is a more important determinant of economic direction. Of course, ‘at this stage’ means that the situation is subject to change and needless to say a dramatic rise in fatalities would immediately change the picture.
We note that the favorite barometer of risk, the euro/¥ cross reached a six week low at ¥124.39 earlier today. We also note that stock markets are a long way off their equivalent lows at the same time. The yen continues to be the favored currency of choice with the dollar moving lower to ¥96.58 on Tuesday.
As for the euro, investors are clearly sitting comfortably with the view that the ECB might reduce rates on Thursday and that additional quantitative easing might be announced as the ECB changes its script. The possibility of either or both events weighed on the euro on Monday, while today a growing sense of ‘so what if they do’ appears to be improving dealer appetite for the euro, last traded at $1.3059.
The pound also rebounded. Last week we noted the increasingly dire state of government finances after the budget. However, it’s having far less impact on the near term health of the pound, which today stands at $1.4671. Today the Confederation of British Industry said that retail sales across 72 respondents rose in April to give a net positive reading of consumer spending at plus-three percent. That compares to a negative net minus 44% in March.
