BRL rallies as downgrade risks dissipate, EUR at risk

Forex News and Events

The current EUR strength is seen fragile as the Greek/EU negotiations prolong without any concrete resolution regarding Greece’s bailout. The efforts that are being put in discussions and the ECB’s support contingent on bailout agreement, revive hopes in EUR and shifts the EUR-complex higher on speculations that neither Greece nor the EU can let the country collapse. The market is either pricing out a Grexit or believe the impact of a Grexit will remain contained. Still, traders should keep in mind the pending event risk. In Brazil, the S&P affirms country’s investment grade rating despite persisting uncertainties on Rousseff’s reforms.

Tsipras says the Greek bailout “not a success story”

In his speech to European Parliament Committee in Brussels yesterday, the ECB President Draghi said that risks to Euro area’s financial stability are contained (despite Greece?), while reiterating the ECB policy should be complemented by structural reforms. President Draghi said “a process that restores the policy dialog between the Greek government and the three institutions” is needed to ”yield […] credible perspective for the successful conclusion of the review under the existing arrangement”. The ECB will reinstate the Greek waiver if the review is successful. This is good news yet Greece is not willing to stick to the current arrangement! Greek PM Tsipras stated that the “bailout program was an unprecedented adjustment effort […] but not a success story”. The negotiations will continue today.

As the liquidity dries up in lack of bailout agreement and the time flies out fast before the month-end deadline, the ECB raised the ELA for Greece by 400 million euros (less than Greece required according to some uncited sources) to avoid financing the Greek government (which would go against the European law). The ECB has 104 billion euro exposure to Greece and this exposure has more than doubled since December said Draghi. The ECB now refrains from widening the credit channels blindly, while at the same time it needs to make sure that the political negotiations are hold in healthy, safe environment. Greece should service 2 billion euro debt on Friday (besides paying salaries to government workers and pensions) and can do it only by rolling over its treasury bills as the ECB stopped funding the Greek banks in February. This gives the banks the choice between participating to fund raising to save Greece, or to let it default. There is the risk. The Greek sovereign curve witnesses the emergency call on the money markets: no more front-end on the sovereign curve and a perfect inversion on the back-end.

S&P leaves Brazil at investment grade

The BRL outperformed its EM peers amid the S&P affirmed Brazil’s investment grade rating (BBB- lowest investment grade) on expectations that Rousseff should continue pushing for tighter fiscal discipline at the second term of her mandate. This is an important boost for the real, first because it dissipated the mounting risks of a downgrade to non-investment level. Second and most important, the only risk of downgrade is enough to lead to mid-long term adjustment on investment portfolios, which was clearly going against the BRL over the past three weeks. This is because the lower collateral value of non-investment grade asset pushes investors to fly toward investment grade assets, as to leverage their holdings and enhance their portfolio returns. The stable S&P outlook therefore sent the BRL 3.14% higher verse USD yesterday. The high volatilities however continue deteriorating the risk-to-reward ratio of short-term long carry positions and should build stronger support at 3.00/10 area. We believe it will take some more effort and couple of concrete steps for Rousseff to gain back investors’ confidence and bring the money back to Brazil. The BRL relief is therefore seen as temporary. Due on March 25th, the National Monetary Council is expected to pull the long-term interest rate target 50 basis points higher to 6% despite the deepening economic slowdown.

Approaching key resistance