Equity Markets Weaken as Greece Downgrades Spooks Traders

James Hyerczyk from ForexHound.com at 12/17/09

U.S. stock markets are expected to open lower based on weaker markets overnight.  Traders are taking risky positions off the table in response to another debt rating downgrade of Greece.  Traders now fear that the debt crisis could worsen in the Euro Zone and perhaps spread to U.S. banks.  This news is triggering a rally in the Dollar and subsequent weakness in the U.S. equity markets.  Today could be an ugly day in U.S. stock markets if enough traders decide to book profits before the end of the year rather than risk a substantial correction.

March Treasury Bonds are trading higher due to demand for a safe haven investment.  Yesterday’s Fed statement signaled that rates were going to move higher.  This pressured the Treasuries, particularly the long-end of the yield curve.  The overnight downgrade of Greece debt and the sell-off in equity markets has sent traders to the safety of the Treasuries.

The stronger Dollar is pressuring February Gold.  Yesterday gold rallied while the Dollar traded flat.  This perhaps was a sign that investors were beginning to focus on inflation or central banks were buying again.  The overnight weakness suggests, however, that the Dollar still wields a strong influence on the direction of gold.

March Crude Oil is trading lower after a three day short-covering rally.  The rally the past few days was in response to a possible top in the Dollar.  Today’s stronger Dollar is expected to exert pressure on the energy complex.  In addition, the supply and demand situation still indicates the possibility of another near-term low.  Look for lower markets as long as March Crude Oil remains under 75.63.

The U.S. Dollar is surging against a basket of trade weighted currencies overnight following the news that the S&P Corp. downgraded Greece’s credit rating for the second time this year.  This news has been particularly bearish for the Euro as it raises the possibility that more downgrades of Euro Zone sovereign debt are to follow. Investors now fear that the spread of bad debt throughout the region could trigger serious problems banking issues, curtailing the current economic recovery.

The downgrade news came on the heels of yesterday’s Federal Reserve report.  While not actually a bullish report for the Dollar, the Fed’s carefully chosen language did nothing to damage the developing uptrend.  The Fed essentially declared the financial markets healthy enough to begin removing emergency stimulus before its scheduled ending date on Feb. 1.  The Fed cited “improvements in the functioning of financial markets” as the main reason to believe it would let its financial aid packages expire on time in February.

The Fed also added that labor issues were “abating”.  This comment was influenced by the drop in the unemployment rate from 10.2% to 10.0%.  The Fed upgraded the growth outlook as improvements in economic data since its last meeting in November warranted the following comment, “economic activity has continued to pick-up and that the deterioration in the labor market is abating.”  Finally, the Fed added that “financial market conditions have become more supportive of economic growth.” 

On the downside, the Fed said, the economy is “likely to remain weak for some time.” In addition, the Fed reiterated its pledge to keep interest rates “exceptionally low” for an “extended period.”  This comment led economists to believe that interest rates are not likely to rise until June 2010 or later.

So while the Fed’s comments did nothing to break the Dollar, there were sufficient enough friendly comments to help the Dollar remain firm.  Based on this assessment, traders will focus today on the developing debt issues in Greece while speculating that more issues with other countries are likely to surface.

Initially, the thought was that more hawkish comments from the Fed were already priced into the market, but this wasn’t the case during the early hours of today’s session.  Almost immediately after the close of the New York trading session, the Dollar began to firm.  The Greek downgrade news reaffirmed the trend and fueled a substantial upside breakout.

In addition to the weakness in the European currencies, the March British Pound is under pressure because of a disappointing retail sales report.  This news overwhelmed Wednesday’s better than expected jobless claims data.

Falling gold prices and the weakening stock market are pressuring the Canadian Dollar.  Technically, the March Canadian Dollar broke out to the downside on a move through .9363.  The next downside target is a swing bottom at .9301.  The weekly trend will turn to down on a trade through .9094.

Demand for higher yields, an improving economy and the reversal of the carry trade is helping to trigger a sharp break in the March Japanese Yen.  Overnight this market tested an uptrending Gann angle which stopped the market last week.  This angle is at 1.1022.