Shock and Yawn: QE to be much smaller than expected?

The recent Dollar weakness has
been driven by the markets expectation of a monster bout of QE over the next
few months. Judging by current levels analysts have estimated that the market
was expecting as much as $1trn in further asset purchases by the Federal
Reserve. However, recent rumblings from the American central bank has begun to
indicate (along with a recent newspaper article) that any further QE will be
much smaller in scale, $100 bn or so (the number seems small fry now, how
ridiculous) but will be implemented over a longer time frame. Mr Bernanke has
already made the analogy between further QE and a golfer with a new putter on
the final hole of miniature golf course. He is better to be conservative and
strike the ball less firmly due to the unknown way the ball will react to the
new putter. Yes, I think it’s a rubbish metaphor as well, but that does not
change the fact that the market is very short Dollars at the moment and next
weeks FOMC may see a spike in the value of the Greenback. Shorts may rush to
cover positions if QE is indeed on a much smaller scale than expected. It will
be interesting to see the reaction of the stock market, recently reacting as
though on steroids in anticipation of shock and awe QE, deflates with a whimper
or reacts violently as though the legs have been kicked from beneath it.

The spotlight seems to have
travelled full circle in the FX markets this year, in spring all we could think
about was the sovereign debt problems in Eurozone, pushing the Euro all the way
down to 1.18 on EURUSD. The problems were largely forgotten after the huge EU
bailout package was announced, but debt problems are again coming in to focus.
Portugal has failed to reach an agreement on its budget, Ireland has announced
further fiscal retrenchment and Greek officials admitted they are still not out
of the woods causing bond yields of the so called PIGS (which vary inversely
with the price) to spike higher once again. The initial round of spending cuts
were accepted by the public as a necessary evil, but a second round and even
third round are quite rightly, since Governments can be booted out of power
over this sort of thing,  struggling to
be sold to the electorate. Uncertainty of any kind, especially of the political
sort leads to investor worry, especially when your debt burden is as high as
300 per cent of GDP!

The Pound is continuing to gain
against both the Pound and the Euro. After Tuesday’s extremely positive Q3 GDP
figure, Sterling has held its ground and we can
expect to once again test the 1.60 level against the Dollar before Friday’s US
GDP and University
of Michigan confidence
survey. Versus the Euro is less clear cut, as may trade sideways until we see a
clearer trend in the EURUSD pair. Later today there is a large amount of
relatively unloved EU data out including consumer confidence figures.

Report by Alistair Cotton