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How to Trade the European Central Bank's Loan Operation

Monday, 27 Feb 2012 | 10:26 AM ET
Traders work in the ten-year U.S. Treasury Note options pit at the Chicago Board of Trade in Chicago, Illinois, U.S.
Daniel Acker | Bloomberg | Getty Images
Traders work in the ten-year U.S. Treasury Note options pit at the Chicago Board of Trade in Chicago, Illinois, U.S.

If enough banks borrow in the European Central Bank's refinancing operation, risk currencies could get a lift.

When the European Central Bank last December offered low-cost refinancing to banks, they snapped up 489 billion euros worth and risk assets took off. So what's on tap for the latest round, coming Wednesday?

"My expectations are very similar to the December take-up," says Amelia Bourdeau, director of foreign exchange at Westpac Institutional Bank. And she believes that "investors want to see if we can break the near term ranges in either direction in commodity currencies."

That's why Bourdeau has come up with a playbook for the refinancing operation, known as the LTRO. If banks borrow less than 480 billion euros, Bourdeau says investors will worry that the markets are too illiquid, and it will be time to buy the safe-haven greenback against the Canadian dollar.

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But if banks borrow more than 480 billion euros - the range Bourdeau is expecting - she wants to buy the loonie against the buck. "My preferred scenario is one that's risk on," she told CNBC's Melissa Lee. And the Canadian dollar, which has lagged other commodity currencies lately, has more room to rise, Bourdeau says. So she wants to sell the dollar against the Canadian dollar with a stop at 1.0060 and a target of 0.9770.

Be careful, though. Bourdeau warns that investors could soon change course if they reevaluate and decide that a large take-up implies weakness in the system after all.

Andrew Busch, global currency and public policy strategist for BMO Capital, agrees that it's best to use currencies other than the euro to trade on the refinancing operation, but he takes a different view of the operation's implications. He thinks investors could be concerned right away if banks borrow heavily in this latest refinancing round.

The whole discussion is right here in the video.Tune In: CNBC's "Money in Motion Currency Trading" airs on Fridays at 5:30pm and repeats on Saturdays at 7pm. Learn more: The essential vocabulary for currency trading is on Key Currency Terms. Top currency strategies are broken down for you in Currency Class.

Talk back: Tell us what you want to hear about - email us at moneyinmotion@cnbc.com.

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