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What’s ‘UP’ with the Euro?

Posted by Larry Doyle on July 20, 2010 9:41 AM |

The Euro has had a significant bounce over the last 6 weeks. After bottoming out slightly below 1.20/U.S. dollar in early June, the Euro has bounced back close to 1.30 versus the greenback. Let’s navigate the circuitous path of this most important currency and assess where it may be headed from here. I am most pleased to highlight commentary on this critically sensitive topic, written specifically for Sense on Cents by Forextraders.com:

The Current State of the Euro:  Can It Head Higher Versus The Dollar?

The months of June and July have seen a rapid and extreme appreciation of the Euro against the U.S. Dollar.   In order to understand our current state of the Euro and where we may be headed, it is imperative that one have a basic understanding of the Sovereign Debt Crisis in Europe.

A Greek Default?

After a sovereign default scare in Dubai in late November, rumors started to circulate that Greece could be in similar trouble. It didn’t take long for these rumors to be proven as true.  Immediately, investors and traders made a mad dash out of the Euro and into the safety of the U.S. Dollar.

The chart above (click to enlarge) depicts the major moves of the EUR/USD over the last two years and what has caused each one.  Our current move in the EUR/USD can still be considered a result of the Sovereign Default Crisis in the EuroZone.  As the Euro tumbled from November of 2009 to June of 2010, the European Central Bank (ECB) was very stand-offish to any talks of a Greek bailout.  In the original EuroZone agreement, there were to be no bailouts, and due to political pressures in Germany, the ECB was very hesitant to raise the possibility of a bailout.  This only served to exacerbate investor concerns, and week after week the Euro continued its precipitous decline.  Finally in early June, the ECB and IMF announced a bailout package and confirmed that funds were in place if any EuroZone member countries needed aid.  This served to reassure investors that there would be no default, at least in the short-term, and the Euro finally found support at 1.1875 on June 6th.  Since then, the Euro has staged a remarkable rally as it breached the 1.3000 level on July 16th before finally falling back to the 1.2900 level.

So Where Is The Euro Headed?

The violent rise of 1,000 pips from June 6th to mid-July was due to several factors.  First of all, in June it became very apparent the U.S. was facing major roadblocks in its economic recovery.  Extremely disappointing housing figures, a struggling labor market, and a very dovish Federal Reserve combined to create a clear picture that the United States was not going to be raising interest rates anytime soon.  In Europe, it seemed apparent that struggling EuroZone economies were adopting strict austerity measures as they made massive cuts to government spending.  If the austerity measures that Greece, Portugal, Spain, Ireland, and Italy are instituting are successful, the EuroZone could emerge from the recession sooner and on better ground than the U.S., although it is far too early to tell.  The fears of a near-term default in the EuroZone eased further when Greece, Portugal, and Spain all raised billions of Euros in bond auctions from the capital markets—and they were each able to raise the capital at better interest rates than expected.  This sent the Euro even higher during the week of July 11th by those who trade currencies.

Further Euro gains above 1.3000 this week will most likely depend on the results of the European Bank Stress Test Results.  A large percentage of European Banks will be required to undergo a series of tests that will simulate a time of great financial distress and expose a bank’s assets and liabilities to the simulated environment, in order to determine how the bank would hold up.  If the market is pleased with the results of the Stress Tests, then the Euro will most likely move to higher levels in the coming weeks.  However, if the market does not like the results, a top may be in place at 1.3000, and the Euro may begin to correct lower.

Thanks again to Forextraders.com for this commentary.

LD

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  • Mike

    Well seeing as housing is still tanking even though mortgages are at all time lows, the Fed is going to have to go through another round of stimulus soon.

    A strong Euro is a great way to keep dollars nice and weak. However, all it takes it one country in Europe to default for this pair to go to 1.15 or parity.

    Both EUR and USD are complete crap right now, hanging on a ripping thread held above thin ice… watching them square off in this currency pair is like watching two drunk blindfolded men go at it in a steel cage.

    Yen is getting very uncomfortably strong too… I would think about shorting that.

  • fred

    LD, the real story…

    It’s all about mortgage resets and GSE securities. Rates will stay low until the waves of mortgage resets are done. Banks are offloading toxic GSE securities to the Fed for 100 cents on the dollar and thereby reducing reserve requirements and increasing reported earnings in the process. The Feds balance sheet has grown enormously over the past few years first by purchasing treasuries and now by swapping out the treasuries for GSE’s. The credit quality of the Feds portfolio has gone from AAA to Junk status while financials from junk to AAA.

    When gov’t backing of GSE’s is removed in 2012, GSE securities will all have to take a massive haircut in valuation (.25 to .50 cents on the dollar), the taxpayer will be expected to foot the bill and financial institutions will walk away clean.

    The financial industry (banks, insurance, mutuals, etc) is going along with the scam soas to avoid culpability for the ongoing fiasco and to get back to the larger scam of skimming fees from the public in an uptrending stock market back on track.

    • fred

      To tie it all in to the cuurent blog. Maybe the Fed scam is the reason for the $US weakness, investors are catching on! It will be interesting to see if the Europeans go along with the “Geithner model” of financial deception or come up with some variation of their own.

    • LD

      Fred,

      I think you are spot on here. This is the reason why Obama and team gave the GSEs the ‘off balance sheet’ blank check on Christmas Eve 2009. One huge transfer.






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