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China's Move to Curb Excessive Credit Pressures Equity Markets

James Hyerczyk from ForexHound.com at 02/12/10


Equity markets are trading weaker overnight following a surprise move by China’s central bank to curb excessive credit demands. Recent data has shown that China’s economy may be heating up too fast which could lead to an asset bubble in the real estate and housing markets.


Commodity markets are getting hit hard following the increase in China bank reserves. This is putting selling pressure on commodity-linked stocks. Risk aversion is returning to the markets which could lead to downside pressure throughout the day.


The stronger Dollar is putting pressure on April Gold, erasing almost all of yesterday’s gain.  The short-term chart indicates a move to $1071.50 is likely. Look for downside pressure throughout the day as long as the Dollar remains firms and traders averse to risky assets.


March Crude Oil is trading lower as demand is falling for commodities. The current chart pattern suggests that a break to $72.60 is likely over the short-term. Look for more downside action as long as the Euro remains under pressure.


Weaker commodity markets is leading the overnight short-covering rally in March Treasury Bonds and Notes. The Treasuries are reacting positively to the news that China is raising its bank reserve requirement by 50 basis points because it diminishes the chances for inflation to flare up.


The U.S. Dollar is soaring as China surprised the Forex markets with a 50 basis point hike in its bank reserve requirements. This move by China is an attempt to cool credit without tightening interest rates. The intention of China’s central bank is not to derail the economy but to preserve its expansion. The easy flow of stimulus money has created a potentially overvalued real estate and housing bubble in China. This morning’s move by China to raise bank reserves by 50 basis points on February 25th is the central bank’s attempt to avoid an asset bubble.


Thin volume in Asia contributed to this morning’s strong rally in the Dollar as many traders were taking the day off ahead of the start of the weeklong Chinese New Year holiday and the extended U.S. holiday week-end.


Also contributing to the strong rally in the Dollar was the weaker Euro. Poor German and Euro Zone economic data as well as the lack of solid steps by the European Union to help Greece were also bearish catalysts. 


Several days of tight trading ranges contributed to the overnight weakness in the March Euro as volatility returned in a big way once fresh 2010 lows were reached. Worse than expected German and Euro Zone GDP reports ignited the break with the news from China providing additional fuel to the sell-off.  The news that GDP did not continue prolong the uptrend from the last two quarters sent a signal to the markets that the global recovery may be faltering or stalling.  The poor GDP reports should provide more incentive to EU members to get the Greece situation straightened out.


While the news from China and the poor Euro Zone economic data are making the headlines overnight, investors are still expressing their dissatisfaction with the proposal by the European Union to rescue Greece from an economic disaster.  Although the EU is ready to assist Greece if needed, support for the plan remains uncertain. This suggests that additional measures may be necessary. This translates into outside money may be required. Talk is swirling that the International Monetary Fund stands ready to come in if necessary.


Bearish traders are sitting on a record amount of short positions against the Euro. These traders feel that the current plan will fall short in helping Greece tackle its fiscal deficit. EU nations are throwing their support behind the plan as a show of solidarity rather than posting real money. The European Central Bank threw its support behind the pact in an effort to boost solidarity by saying the ECB will work with the EU.  ECB President said the central bank will work with the struggling nation “in monitoring the implementation of the recommendations by Greece.”


Today’s U.S. economic reports include Retail Sales which is expected to be up 0.3%. The University of Michigan Confidence Index is expected to come in at 74.8.  Business Inventories should be about 0.2%.


The March British Pound is reversing yesterday’s strong rally. The weaker Euro and the bearish news from China are the catalysts behind this morning’s weakness. Traders are also concerned about the weak economy and the possibility of extended stimulus. Finally, investors are worried that problems similar to the issues in Greece will flare up in the U.K.


The weaker Euro and rumors of possibly more intervention by the Swiss National Bank is helping to weaken the March Swiss Franc.  The SNB is making a stand to weaken its currency against the Euro in an effort to stave off deflation.


A sharp drop in crude oil and gold is helping to fuel the decline in the March Canadian Dollar. The overnight action is erasing some of this yesterday’s gain.


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