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Forex Market Outlook 10/27/11

Well the Euro debt crisis is finally over, or is it? So what happens next? That folks, is the million dollar question but first we should take a look at the events of the last 24-hours and what was revealed as the definitive resolution.

Yesterday there was some market volatility and initial risk aversion as the rumors were making the rounds and we were expecting the announcement to take place some time near the end of yesterday’s trading session. When it appeared as thought this process would be delayed into late last night, the markets reversed and risk appetite increased in anticipation of the announcement.

The announcement finally came late last night and here are the highlights of the plan of action:

1. Greek bondholders will agree to a 50% voluntary haircut as they exchange bonds and Greece will reduce its deficit by 2020 and they will get some additional funding that will add up to about 130 billion euros.

2. The EFSF will be expanded and leveraged by about 4 to 5 times making its total capacity somewhere between 1 and 1.5 trillion euros by member states offering insurance to bond–buyers and there will also be the creation of a special purpose vehicle (SPV) that will funnel money to the program from private investors and the IMF.

3. European banks will have to re-capitalize and be required to maintain a 9% reserve requirement which means about 100 billion euros of new funding will have to be raised.

In a nutshell, they did exactly what everyone was calling for them to do and nothing more. Due to the fact that announcement came out overnight and there were no surprises, the actual announcement produced little fireworks but a healthy risk appetite.

Global stocks and commodities are trading higher, though gold is seeing a bit of selling as it sheds some of the alternative currency properties that caused it to rocket yesterday as safe haven from potential Euro problems. Stocks here in the US are looking to move higher as corporate earnings have been good with some 70% of companies beating their expectations.

In addition, US GDP figures came in as expected showing 2.5% for last quarter up from the previous 1.3% disaster. Initial jobless claims also came in as expected at 403K.

So the table is set for a rally to occur heading into the end of the year. Stocks have been flat for the year and my guess is that fund managers are looking to try to salvage the year by pushing stocks higher into year-end to show some sort of return to get paid. Cash on the sidelines may re-deploy as the safe haven play in bonds is no longer looking useful.

In other news, overnight in Japan the BOJ issued their rate policy decision and did not raise rates as was expected. They increase their bond-buying program by a small amount which left the market largely unimpressed. The Yen strengthened on the news vs. USD and the market is waiting for some sort of intervention which may not be coming.

The only other major risk left is the US super-committee budget process which will likely produce little result here in the US. We have gotten to a point where we are probably on hold until the 2012 elections and nothing further will get done. While business can exist and even thrive in these uncertain times, they unfortunately will not expand and hire at the rate that we need to grow. While this may be suffice in the short-term, this could set us up for further failure down the line.

Not to mention that details of the Euro debt resolution are a little bit murky and will only be in factor if the market tests the plan or if contagion spreads. Greece got a debt reduction, what about the others? Italy? Ireland? Portugal?

The market focus will likely be on how to salvage this year but the start of next year could produce fireworks if the contagion in Europe spreads or if Washington DC gridlock becomes so egregious that the economy here moves toward recession.

So unless something else pops up (something usually does), I am bullish going into year-end for risk assets.

By Mike Conlon,