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Is Capital Fleeing the Euro Zone?

In case you're feeling short on bad news from the euro zone, this strategist is watching an ominous capital shift.

So Spain got its bank bailout. Fine. Jens Nordvig, chief G10 FX strategist at Nomura Securities, has his eye on something bigger.

"The euro zone crisis has reached a new phase in recent months, including in terms of capital flows," he wrote in a note to clients. "There is now accumulating evidence of capital flight. If this trend continues, the euro could potentially trade much lower in a dynamic resembling a traditional emerging market currency crisis."

Some capital has been leaving the euro zone ever since the debt crisis erupted, of course. But Nordvig has looked closely at capital flows, and he found that for some time, any outflow was muted by other factors.

In the first phase of the euro zone crisis, which he defines as April 2010 to June 2011, investors sold assets from peripheral euro zone countries. But often, Nordvig says, they were merely switching into assets from core countries like Germany.

The second phase of the crisis started in July 2011, when investor concerns about Italy and Spain started to grow. Investors started selling a broader range of European assets, but Nordvig says, "euro zone equity investors, in particular, repatriated sizeable amounts of money back to the euro zone." That mitigated the effect of other sales of euro zone assets.

Now we are in Phase III, Nordvig says. And it's worse.

"The new element, which we are starting to detect, is that domestic investors in the eurozone are starting to push more money abroad, in a dynamic resembling what we previously observed around traditional emerging market currency crises," he wrote.

Euro zone investors and mutual funds are making big purchases of foreign fixed income, and the Swiss and Danish central banks have been feeling pressure for foreign inflows as they try to keep their currencies in check. Looking at sovereign bonds, Nordvig says bond markets in Germany, Finland and Britain have seen yields shrink as investors look for safer investment alternatives.

What does this mean for the euro?

"This new dynamic is EM-like and opens the door to much more pronounced euro weakness, if it continues," Nordvig says.

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