EUR Analysis: Could Portugal be Next?

ForexNewsNow | Published on November 26, 2010 at 4:01 am

Euro Online FX newsOvernight, an article in the FT Deutschland said that other euro zone nations and the ECB are urging Portugal to seek a bail-out. So, the issue is of European sovereign risk is obviously not out of the spotlights yet. One can expect this theme to receive extensive coverage on the financial news wires later today.

Rumors continue to swirl (e.g. on additional downgrades). EU policymakers continued spreading opinions, too. In this respect, a quote from Euro-group Chairman Juncker in a newspaper interview that Germany was slowly losing sight of the European common good, was getting quite some coverage on the screens. These kinds of quotes are not the best way to convince currency markets that euro is being defended by a coherent policy framework.

That said, FX traders enjoyed a calm day due to the absence of the U.S. markets were order-driven and no one felt the need to try to trigger a new stop-loss move exploiting thin market conditions.

On Thursday, EUR/USD trading was in a much calmer environment than we got used to of recently. US markets were closed in observance of Thanksgiving. This reduced market liquidity.

In Europe, only some second tier economic data was on the agenda. The pair came very close to Wednesday’s correction low (1.3285), but a break didn’t occur. Nevertheless, the ongoing widening of the spreads between Germangovies and bonds of less credit-worthy governments indicated that underlying uncertainty on European sovereign risks was not out of the way.

EUR/USD closed the session at 1.3360, compared to 1.3335 on Thursday evening.

EURUSD Nov 26

Today, the calendar contains the EMU M3 data and German CPI data. The M3/Lending data are an important factor for the ECB to make an assessment on the health of the European money markets. This is important input when the ECB has to decide on the pace of its process to a normalization of liquidity providing to the European banking sector.

However, we doubt that these data will get much attention on the currency market. There are ‘easier’ pointers to guide the EUR/USD price action: the intraday EMU sovereign credit spreads. As long as tensions on the intra-EMU bond markets persist, the single currency will continue to fight an uphill battle. At least for now, we don’t see a trigger that will be able to remove these tensions anytime soon. On the contrary, Portugal coming ever more in the spotlights won’t help the single currency.

One note of caution on this one-way decline of the euro. One can not exclude the EU to come out with a ‘big package’ including Portugal over the weekend. This scenario is far from sure and even if the EU would announce ‘something’, it is not sure that it will please markets.

Nevertheless, we have to stay open-minded. To be honest, we don’t expect EUR/USD traders to anticipate on such scenario today. In the US, trading desks will probably still have skeleton staffing with all eyes on the shopping malls.

EUR/USD in hindsight

Over the previous weeks, we left our EUR/USD positive bias. The first reaction to the Fed decision still revived some kind of reflation/risk trade and pushed the trade weighted dollar to a new correction low (75.63). EUR/USD reached a top in the 1.4280 area. However, the negative impact of QE-2 on the US dollar faded. The flaring up of tensions in peripheral Europe came to the forefront. EUR/USD was ripe for a more pronounced correction.

The pair dropped out of the 1.3698/1.4160 consolidation range. Mid last week, the pressure on the euro eased temporary as investors anticipated that some kind of solution for Ireland would be in the making. However, Ireland accepting aid was not enough to remove all doubts on the euro. Contagion fears keep the euro under pressure.

We also keep an eye on the US side of the story. The US story contains several factors of uncertainty, too. Nevertheless, we still keep in mind the working hypothesis that the combination of the Fed starting QE-2 combined with reasonably good economic data could support the dollar at some point. This week’s US data were mixed, but the rise is US bond yields can be seen as supporting this hypothesis.

Content provided by: KBC Bank

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