A mixed reaction hit the markets on Wednesday as news that the underlying negative sentiment for almost everything European finally began to creep upon the largest economy in the region. Germany, who had seen a dismal uptake of under two thirds of its ten-year bonds earlier on Wednesday, was the latest victim of the negative investment contagion being spread over Europe. The bonds, normally in demand as a safe haven with a steady, albeit low, yield by which all other regional borrowing is measured suddenly lacked demand, stimulating fears that this would affect the purchasing power of the country at the heart of the crumbling European financial industry.
Such is this surprising news that investors were divided in their analysis on whether this could be seen as positive or negative. Clearly, for the Euro this is not good news and the US Dollar strengthened against its European counterpart as the uncertainty continues in the US regarding debt resolution plans and fears increase that Germany is not immune to a far more deeply entrenched skepticism of European assets. The Euro fell on this news as investors grew nervous at the prospects of the region as a whole if Germany, which maintains a relatively strong economy despite the crisis, cannot raise the requisite sovereign capital to prevent budgetary restrictions. Some, however, argue that the low yield offered by German bonds compared to the wild swings of Spain and Italy in recent days has been a more straightforward reason for the lack of demand.
Interestingly the major European stock markets appeared, during the European session at least, to be relatively unfazed by this potentially negative news. One of the reasons for this calm reaction was suggested by analysts to be the knowledge that if the European financial crisis is seen to enter Germany, rather than simply sitting on its doorstep then the government would have to react differently. Since many investors support the idea put forward by France that the European Central Bank should play its part as a bank of last resort, buying up unlimited numbers of bonds when member states get into financial difficulties. Germany is currently staunchly opposed to this and Angela Merkel has been vociferous in recent days that this is not the way forward despite the reassurances that it would offer to financial markets.
Another distinct possibility for the stock market inertia in comparison to the Euro which has been so highly correlated in previous days is that the approach of the Thanksgiving holiday in the US could be creating thin trading and restricting the reactions of the markets. On the other hand, thin liquidity can usually increase volatility of stocks due to the unusual disparity between supply and demand that is created when there are limited market participants. The fall of the S&P500 by 1.75% at the time of writing suggests that the Euro´s positive correlation is very much still in play and that the thin trading in the US is very much reflective of the bearish sentiment towards perceived risky assets.
