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FX: Contagion fears in the EMU periphery, culminating in the downgrades of Greece, Portugal and Spain by Standard & Poor’s, were the most important drivers in the FX market last week. Accordingly, a cocktail of widening CDS and credit spreads, a higher VIX and stagnating global equities provided again fertile ground for a further advance of the US dollar against most other FX majors. More surprising, the agreement between the IMF/EU and Greece over the weekend had almost no impact on the EUR. After a fast rally up to 1.3360 at the start of the trading session in Asia, EUR-USD declined back towards levels just slightly above 1.32 this morning. Critical events during this week include the progress of the German legislative process on Greek aid, which according to statements by Finance Minister Mr. Schäuble should start at the beginning of this week, and might be finally approved by the Bundesrat on Friday, 7 May. The other political highlight driving FX markets will take place in the UK. With the elections being held next Thursday and the Liberal Party posting strong gains this month, a hung Parliament is still the most likely outcome, even after Tory leader Cameron won the third TV debate. Position adjustments and book-squaring have already emerged in the run-up to the elections and this should keep a relatively cautious stance on sterling in the coming weeks, with investors waiting to see the formation of the new government and its early actions for handling the UK budget deficit. Thus, unless the election results show a majority (a very unlikely event according to the latest polls), cable’s upside potential above 1.55 should remain capped and delayed until the UK political scenario is clarified. On the other hand, EUR-GBP should stay trapped in the middle of a tight trading range, reflecting the ongoing EMU woes on the one hand and political uncertainty in Britain on the other.
FI: While contagion of the Greek crisis so far had been manageable, the heat increased last week, with S&P inflating the negative rating drift in the euro zone by downgrading Greece three notches from BBB+ to BB+, Portugal two notches from A+ to A- and Spain one notch from AA+ to AA. Temporarily, Greek CDS have widened 210bp, Portuguese 100 bp, Irish 60bp and Spanish 30bp throughout the week before the hope for an agreement between Greece and the IMF let to a pronounced U-turn. In the atmosphere of uncertainty, Bunds have posted further gains with 10Y yields declining to 2.94%. The new Bund 3% Jul20 (currently yielding 3.02%) has received a fairly good demand and demand at the Italian BTP auction has been very good. This is a signal that markets are becoming more selective. Looking forward and as already mentioned above, we would expect a minor relief rally (tightening of periphery spreads in the eurozone) that could easily prove temporary. Apart from Greece, two elections are in the spotlight: UK general elections on May 6 and North-Rhine Westphalia elections in Germany on May 9. Important releases are scheduled in the US (labor market report and PMIs) while the EU calendar will be pretty empty. Finally, although we expect a very interesting Q&A session at the ECB meeting, from a practical perspective we would not expect a big impact on markets.