ECB funding causes banks to fret
Currencies Direct June 29th 2010 - 2 minute read

After the short squeeze in the euro over the last few weeks, it has resumed its slide in almost every pair. The euro dropped below a level not seen in over 18 months against Sterling and reached an all-time low against the Swiss franc. The franc is increasingly seen as a safe haven currency, along with the dollar, and has benefited from a renewed bout of uncertainty in the Eurozone.
This Thursday (1 July 2010) sees the end of the ECB 12 month Long-Term Refinancing Operation (LTRO), implemented during the financial crisis to (supposedly) provide liquidity to Eurozone banks struggling to meet funding needs in the market. However, it seems many of the banks used the funds speculatively rather than for funding. Borrowing from the ECB, banks made a classic carry trade by buying higher yielding bonds from periphery Eurozone and pocketed the difference in rates. At the time, these bonds were seen as a low risk.
However, one year on, those bonds are seen as much more risky and funding the trade in the market may now be cheaper. The ECB is unwilling to extend the scheme for another 12 months, instead preferring to roll over the funding for three months. The rollover on Thursday is likely to reveal some important information about the state of some banks given that market funding is now cheaper – any bank participating in the auction will show it has trouble in tapping the market for funds and the uncertainty over which banks this may be is feeding through to euro weakness.
Sterling continues to gather momentum; the austerity Budget has been well received in the markets and Andrew Sentance of the MPC continues to indicate that he thinks interest rates should start to rise as the "extraordinary" stimulus measures are withdrawn. Mr Sentance gave Sterling a welcome boost last week when MPC minutes indicated he voted for a rate increase at the last meeting. In current trading, Sterling is up against the euro but has fallen off slightly against the dollar in anticipation of US consumer confidence figures released this afternoon.
Figures from the US yesterday showed inflation remains muted, the Federal Reserve preferred measure of inflation held steady at 1.3% and along with the slight chance in tone from the Fed last week has helped Sterling to gain some ground against the dollar. Stock markets around the world have today come under selling pressure driven by the increasing fear of a double-dip recession in the US. The Shanghai index was off more that 4% and European bourses have all opened in the red. This will likely give a short-term boost to the dollar, but with the government deficit becoming a political hot potato stateside, continuing dollar strength may be short lived.
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