Optimism About PSI Boosts Risk Appetite

NEW YORK (BBH FX Strategy) -- The dollar is weaker against most major and emerging market currencies with Greece still the major focus. The euro broke above 1.32 against the dollar in the European morning as it becomes evident that the Greek PSI deal will likely go through, as we had expected.

The next level to watch on the upside for EUR/USD is the 100-day moving average at 1.3268. AUD and NZD are both up about 0.75% against the dollar, ignoring weaker employment data in Australia and a dovish statement by the Reserve Bank of New Zealand, while NOK and SEK are up over 1%.

Once again, JPY is the notable outlier, falling 0.5% against the dollar and rapidly approaching its recent high of 81.87 earlier this month. This follows a string of weaker data overnight including a record current account deficit in January, faster contraction of GDP in the fourth quarter, and a dismal 8.6% contraction in machinery orders. Moreover, the weekly securities transactions showed Japanese investment outflows continue.

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In sovereign debt markets, optimism toward the PSI agreement helped drive the spread between German and Italian 10-year debt below 300 basis points, the lowest level since early September driven by a 15-basis-point decline in Italian debt. Spanish yields are also lower but only by five basis points, thus widening further the spread between Italian and Spanish debt, now at 25 basis points, a level not seen since July 2011.

However, it is important to note that Portuguese yields continue to trend higher, rising five basis points on the day. This is consistent with our view that, while markets and the euro will likely rally on a muddle-through Greece deal, closure on the debt crisis is unlikely. The next countries to come under pressure will probably be Portugal or Spain.

Global equity markets are sharply higher with S&P futures up 0.9% and the Euro Stoxx up 1.7% led by solid gains in the financial sector, especially banks. The MSCI Asia Pacific Index is up 1.2% and the Nikkei closed 2% higher, with gains in part supported by expectations that a weaker yen will boost exporters.

Chinese equities received a boost today from reports suggesting that provincial pension funds (worth RMB1.9 trillion) are about to begin investing in the stock market. This follows headlines Wednesday suggesting banks' wealth management arms (worth RMB4 trillion) will invest in stocks.

Other reports from the sidelines of the National People's Congress meeting hint at increases to Qualified Foreign Institutional Investors quotas and as usual, there is some speculation that the People's Bank of China will cut reserve requirement ratio after the release of CPI tomorrow. Again, it does seem like policymakers are getting more serious about supporting the equity market. Whether it will work is an entirely different question.

While the Greek PSI deadline remains in place for Thursday at 3 p.m. EST, the results will not become known until Friday. Our base case is for the participation rate to fall within the 75%-to-90% range. While averting the disaster scenario of a rate below 75%, a rate between 75% and 90% represents a muddle-through solution.

While markets and the euro will likely rally on that outcome, there will still be more questions than answers. How will holdouts be dealt with? Is there any risk that collective action clauses will be invoked? Eurozone finance ministers will hold a conference call to discuss Greece PSI results Friday at 8 AM EST.

In the U.S. there are no major data releases today. Weekly jobless claims may continue to show a firming U.S. labor market ahead of Friday's jobs report. Consensus for February non-farm payrolls is a positive 215,000 vs. 170,000 in January, and would be consistent with continued improvement in the U.S. labor market.

Indeed, we still believe that the fundamental theme of an improved U.S. outlook coupled with eurozone recession could help the dollar to continue firming even after this current bout of eurozone turmoil ends.

This commentary comes from an independent investor or market observer as part of TheStreet guest contributor program. The views expressed are those of the author and do not necessarily represent the views of TheStreet or its management.

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