Five global market themes for the week

Following are five big themes likely to dominate thinking of investors and traders in the coming week.

1/ INTERVENTION JITTERS

CFTC data has shown in recent weeks that speculators are stubbornly holding, and even adding to, yen longs in the face of Japanese intervention threats. Implied volatility is at relatively low levels, suggesting little panic in the market about the dollar's slide to 15-year lows against the yen and the nagging intervention threat.

Still, US dollar/yen risk reversals indicate some may be starting to hedge against intervention, with the one-week 25-delta risk reversals close to neutral.

BOJ policy minutes published in the coming week will show the extent to which the yen is causing concern at the central bank but it may be the politics that grabs more attention given the leadership battle between Japanese Prime Minister Naoto Kan and his rival Ichiro Ozawa is throwing up alternative policy options and FX stances.

2/ SHIFTING OPINIONS

While prices in some financial markets - and especially in bond markets - had begun to reflect a high level of concern that the US economy was facing a double-dip recession, many analysts are saying they do not expect the world's largest economy to slip back into recession and that the global economy is likely to expand, albeit below its trend growth rate.

Firms are still optimistic about their outlooks. With interest rates low, and likely to remain so for some time, equities will be supported in any contest that involves picking the least ugly asset rather than just the safest.

With the benchmark 10-year US yield down by nearly a third so far this year, relative value arguments will make it ever harder to justify piling more money into such safe-haven assets.

In Europe, for example, the STOXX Europe 600 index offers a dividend yield of 2.84 percent, compared with a yield of 2.26-percent from 10-year German Bunds.

3/ PACING THE RALLY

Bullish yield curve flattening remains broadly intact so far with inflation risks still subdued and the economic outlook anemic. The front end of developed market bond yield curves is well anchored and euro zone interest rate futures across the 2012 strip have risen to levels which show the market does not expect the ECB to raise rates until at least the end of 2011.

Still, it is taking ever more dire economic reports to drive bonds higher, and if that trend continues, US data will have to be weak enough to force the Fed's hand on balance sheet expansion if bonds are to keep rallying at their recent pace.

4/ KEEPING A LID ON THE PRESSURE

Some peripheral euro zone government bond yield spreads and credit default swaps are still pretty wide, with the Irish 10-year yield spread against German Bunds near record highs, for example. However, pressure on euro zone sovereign debt is not as acute as it was earlier this year, average yields at government debt auctions have inched down, and foreign demand at a Spanish bond offering was encouraging.

Waning central bank buying of peripheral paper has yet to trigger any aggressive selloff in these markets and the increased use by national banks of government debt as collateral to secure cheaper short-term funding could help to keep volatility in check in the single currency bloc's weaker credits before supply picks up in earnest after the northern summer.

5/ GAUGING THE TONE

Financial markets are already expecting a difference in tone - and policy outcome - between the Reserve Bank of Australia and Bank of Canada, which both hold policy meetings in the coming week. While most Canadian primary securities dealers expect their central bank to raise rates, the Australian central bank is expected to view its current rates as high enough given the outlook for domestic and global economic growth.

Any more marked divergence in tone, and particularly any hint that Canadian interest rates might rise more quickly than is currently implied by markets, would have repercussions both in the domestic bond markets and on the foreign exchanges given the Canadian central bank's tightening this month is expected to be its last in 2010.
 

- Reuters