We are seeing a plethora of moves that are out of kilter with recent norms and correlations. For starters, the euro has been the strongest performer during the European session, outpacing the Aussie and other (traditionally) high-beta currencies. The high around the 1.2550 area takes EUR/USD back above last week’s closing levels, but only modestly so. The fact that we have also seen German yields rise further (by 8bp) when Spanish and Italian yields were little changed is also a fairly rare phenomenon over the past year, normally symptomatic of a fairly major “risk-on” move. The euro price action appears to be in part owing to positioning, with the market still vulnerable to a short-squeeze given the extent of short positions (as seen in latest CFTC data). Furthermore, there are reports in the German press that EU leaders may relax the austerity measures on Greece after the weekend election. It’s certainly true that the election result is far less binary than is often made out.
The price action is also further confirmation (if needed) that the strong “risk-on, risk-off” dynamics that have characterised much of the past 3 years have altered fairly dramatically, both in FX markets and beyond. This has implications for investors but also central banks, with the impact on asset markets of further quantitative easing biased towards being less dramatic than before. This was reflected in remarks from the Bank of England deputy governor (Tucker) yesterday, who challenged the conventional thinking that QE should be limited to buying gilts. Governments and EU leaders in particular should take note, as the ability of central banks to do the heavy lifting is diminishing fast.