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ECB, Not Portugal, Is Main Threat to Euro

Thursday, 4 Jul 2013 | 2:16 AM ET
Duncan Walker | E+ | Getty Images

Renewed uncertainty in the euro zone may have put the euro under pressure in recent days, but analysts argue that it's the European Central Bank (ECB) meeting, rather than the developments in Portugal, that pose a bigger risk to the single currency.

Analysts say expectations that the ECB's policy statement on Thursday will sound dovish, with President Mario Draghi keeping monetary easing on the table, should lead to further weakness in the euro.

"Today's ECB policy announcement is a much larger threat to the euro," BNP Paribas said in a note. "The ECB statement could see an increased emphasis on forward guidance, while also highlighting an implicit contrast between the Fed's QE (quantitative easing) tapering signal and the ECB's accommodative stance for the foreseeable future."

(Read More: Draghi Walks on Ice as Portugal Fears Intensify)

The central bank's dovish message should lead to "decreased front-end yield support for the euro," BNP Paribas said, adding that they are maintaining a short euro trade with a target of $1.2640, which is a nearly 3 percent fall from current levels of around $1.30.

Nick Verdi, director, FX strategy Asia Pacific ex-Japan at Barclays backed that sentiment saying he is in the short euro-U.S. dollar camp right now given that ECB president Draghi would be less confident now than he was in past meetings.

"I think that Draghi two meetings ago was actually fairly confident about the cyclical recovery in the euro area albeit from very low levels - but I think he'll be much more nervous now given the back up in yields that we seen in the periphery, so that should lead the euro to be weaker," Verdi said.

Trading Community Wants to 'Desperately' Sell Euro
Michael Woolfolk, Managing Director & Senior Currency Strategist at Bank of New York Mellon, said he expects the euro to trade lower on ECB President Mario Draghi's comments on Thursday.

The euro managed to bounce back in Asia's trading session on Thursday, after hitting its lowest levels in more than five weeks of $1.2921 overnight as bond yields in Portugal spiked and the country's stock market tumbled on a political crisis sparked by the resignation of its foreign minister and finance minister.

The single currency had jumped as high as almost $1.34 last month after the ECB chief failed to offer new monetary stimulus measures, saying the euro zone economy will return to growth by the end of the year.

(Read More: Watch Out, Euro May Be About to Flex Its Muscle)

But Michael Woolfolk, managing director & senior currency strategist at Bank of New York Mellon, said it would be interesting to see what Draghi's take will be on the region's growth now considering what's recently come out of Portugal, Greece and even Egypt.

"I think on balance, he has to take a step back and as a result maybe the outlook does not look as bright for the euro zone and it deserves a weaker currency, and perhaps QE stays on the shelf," Woolfolk said. "I think you have a currency weakening on Draghi's comments."

On Wednesday, debt-ridden Greece said it would not meet targets on reforming its public sector by the end of the week, the deadline set by its international lenders ahead of a meeting to decide whether to unlock another $8.1 billion in aid for the country, Reuters reported. The ousting of Mohammed Morsi as Eqypt's president on Wednesday, marred by protests and rallies, has also added caution in financial markets.

(Read More: Ouster Brings Cheer in Egypt, but Caution in Markets)

Also a risk for the euro: the all-important U.S. non-farm jobs data due on Friday, which could push the U.S. dollar higher at the expense of the single currency, if the number of jobs added in June come in above expectations, Mirza Baig, head of exchange and interest rate strategy at BNP Paribas said.

"Expectation for us is around 175,000 [U.S. jobs added] which will reaffirm the fact that the Fed is on course for tapering at the end of this year," Baig said. "If we have a very strong number over 200,000, I think market expectations of higher U.S. rates will increase even more and that will put more upwards pressure on the U.S. dollar."

- By CNBC.com's Rajeshni Naidu-Ghelani; Follow her on Twitter @RajeshniNaidu

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