With the Euro crisis seemingly dealt with the remainder of the week has seen many of the ‘risk on’ trades outperform. But the western world is not out of the woods yet, with the credit rating of France in question and the US having come up against its own deadline for budget cuts, the uncertainty has far from left the markets. The deal for holders of Greek bonds to take a 50% haircut and the leveraging of the EFSF are not yet sure things. With the write down needing to be voluntarily in order to prevent a default, the CDS market could be roiled due to the ineffectiveness of the use of these untested vehicles. The leveraging of the EFSF is another cause of concern, as the causes for the fund to take on more leverage would be the same causes that make the underlying countries less able to afford backing the fund.
With a Japanese intervention seeming more and more likely and talks leaning towards one similar to what the Swiss did (effectively peg the currency to a certain currency, vowing to intervene with unlimited funds should the price drop below that level). The Idea has worked out well for the Swiss, which many believe didn’t have to intervene too much, if at all, after the initial spike of the currency and the statements from the central bank. If this approach is taken in Japan they would be hoping to share the same untested peg through language as well.
What would some of the after effects of an intervention look like? If the currency gets pegged to the dollar there could be issues with the currency rising to other currencies as the greenback appreciates as the only safe haven currency that will be able to appreciate. The use of the Yen as a carry will again be a good play as investors can borrow Yen at or near their peg level and place it in USD, in search of higher rates (thought that gap is narrowing) or even into currencies like the AUD.
With the Euro zone still in crisis (decision crisis at the moment) and the threats of a slowdown in China has made commodities, and in affect the Australian dollar (AUD), decline sharply from the beginning of August. The prices of houses in Australia and the appearance of ‘Dutch disease’ in the country make me believe that if the slowdown in China is to continue or get worse (and I believe it will short of any major stimulus from the government) there could be much more downside to the equity markets there and the AUD. The country would have to decrease interest rates that were sent to record highs compared to the developed world to combat inflation from commodity prices.