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What to Do While You Wait for a Greek Debt Deal

The Parthenon in Greece
Scott E. Barbour | Getty Images
The Parthenon in Greece

The Greek debt swap results won't be announced for a bit, so here's a trading idea to ponder.

Hopes are rising for the Greek debt swap, and the euro is rising in tandem. But what else will drive the single currency?

Currency strategists at RBC Capital Markets have been looking at the European Central Bank's massive liquidity injections and gauging their effect on the euro. You'd think a central bank balance sheet that is 50 percent larger than it was a year ago would weigh on a currency, but that's not what's happening, the strategists say.

"The damage to EUR is done in the deteriorating conditions that make it necessary for the ECB to pump in liquidity. By the time the central bank’s balance sheet expands, it can be currency-positive by reducing the tail risks that would be otherwise present," they wrote in a note to clients.

Even so, it's remarkable that the euro is trading where it is given the massive funding operations - but the strategists have an answer for that too.

The euro "is a lot weaker than it appears against USD and that is hidden by general USD weakness," they say. Without the sovereign debt crisis, they estimate that the euro would be trading at 1.63 - so by that calculation, the single currency is already carrying a significant negative premium.

Not surprisingly, the strategists expect the euro to squeeze higher over the next one to three months. But by the end of the year, they expect it to grind lower, to 1.27. The culprits? "Implementation risk in Greece remains high," says Adam Cole, global head of FX strategy in Europe for RBC Capital Markets, and looming elections in several countries inject political uncertainty. All in all, "the combination of financial fragility and, at best, weak economic growth means flare-ups in financial risk are never far below the surface."

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