IG Markets - Morning Thoughts

IG Markets - Morning Thoughts

So, where do we stand with Cyprus?

With deals and counter-deals flying around, it is hard to discern which one is currently before the Cypriot parliament, which deal has been rejected, and which one is being touted. But based on last reports, this is where the negotiations stand.

The latest idea to emerge is to levy up to 25% on large depositors (more than than €100,000) at the Bank of Cyprus, and 4% at other institutions (Popular Banks and Laiki).

The Cypriots are currently rejecting the demand from the IMF that the Bank of Cyprus should absorb the good assets from the Popular Bank, while also taking on the Popular Bank’s €9 billion debt it owes the ECB according to reports.

The markets are suggesting there will be (and want) a deal done before Europe opens late this afternoon. However, if a deal is not struck and the ECB follow through with its threat to pull funding to Cypriot banks, price actions will be erratic and violent.

We made the call on Friday that traders would need to make a tactical decision about holding risk currencies (i.e. EUR/USD) shorts into the weekend. Traders responded by jumping into the EUR with the currency finishing well off the lows of the today. In holding the currency, the expectation is a deal will be done, and that risk currencies will pop today. The other side of the equation will be interesting; a failure to come up with a plan could be very good for those who went short.

Whatever happens, the precedence has been set; Greece, Spain, Portugal, Ireland and Italy must be holding their collective breaths that the next time one of these countries asks the ECB for funding, the ECB won’t come back and tap them on the shoulder with a similar deal facing Cyprus.

Whatever the financial future may hold for Cyprus, risk premiums will increase as will market fragmentation. Investors will begin asking this investment question: should I invest in a bond with a higher return due to the risk premium (i.e. Italian bonds), knowing that at any time I could receive an unspecified hair-cut? Or invest in a lower-yielding bond (German bunds) and rest in the knowledge that I will get my money back, and that if things do turn for the worst, the flight to safety will actually increase my capital?

The eleventh hour dealing will make investing today tricky to call, with no major macro-data due to come out until tomorrow when Fed Reserve Chairman Bernanke speaks. All eyes will turn to risk currencies for guidance, and a tiny island nation at the east end of the Mediterranean Sea.

Moving to the open, we are calling the ASX 200 up 25 points to 4992 (+0.50%). This lead is due to the fact US markets finished higher on Friday night and the futures were also stronger over the weekend. However, the longer we go without a deal today the faster this call will be reversed. Investors will want a clear idea as to how the ECB will react to a ‘no deal’ situation, and may see the market lower. The banks are the most likely places to see buying, as ANZ, NAB and WBC are all now closing in on the 45-days franking credit rule, as they all turn ex-dividend in about six weeks.

It will also be an interesting week for Leighton and Billabong. Leighton is going to have to show that it does have an independent board to stop a further run-on in its share price after the shock announcements from its former Chairman on Friday. While BBG is entering its own eleventh-hour situation with formal offers due by Thursday - is the offer price going to be lowered? Or will it be pulled all together? We will see.

IG Markets provides round-the-clock CFD trading on currencies, indices and commodities. The levels quoted in this email are the latest tradeable price for each market. The net change for each market is referenced from the corresponding tradeable level at yesterday’s close of the ASX. These levels are specifically tailored for the Australian trader and take into account the 24hr nature of global markets.

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