Currency Contest

Euro Daily Close Below 1.3480 Should Open Fresh Downside

Joel Kruger,

Currencies are expected to remain under pressure this week, with all markets seen trading lower against the buck. The primary driver of the price action will continue to be risk liquidation, with fears of contagion from the Eurozone periphery not only threatening a spread to the Eurozone core, but also showing signs of a more dramatic spread outside of the Eurozone. China is one country that we feel is still at risk of an accelerated slowdown, and this in our opinion will be the center of the third phase of the global economic recession, which began in the Unites States, spread to the Eurozone and will soon touch down in China. The latest IMF warnings that China’s financial system is facing a steady build up in vulnerabilities, only help to reaffirm our bearish outlook on the economy. For now, however, the key focus is still in the Eurozone, and the negative attention has now shifted to Spain, with the country’s bond spreads hitting record levels and elections on the horizon. The US Dollar should therefore continue to benefit from safe-haven flows, and could also find some additional relative strength on hawkish comments from Fed Fisher who sees the US economy growing in 2012.

Technically, price action over the past few weeks has been quite telling, with any rallies in the Euro (and currencies in general), being easily absorbed and aggressively offset in an accelerated time-frame. A closer look at the sell-offs in the Euro on October 31st, November 9th, and November 14th are a testament to this fact. The implication is that markets are more inclined to see the Euro lower and are very quick to look to sell on any form of a rally. This strengthens our core USD bullish outlook and solidifies our strategy of continuing to look to sell currencies on any form of a rally against the buck. While we expect to see a deeper depreciation in the higher yielding currencies as the Euro weakens, we also continue to expect to see the Euro leading the way and setting the tone for the overall direction in the markets. As such, 1.3480 is the key level to watch in EUR/USD, and a break below will likely open the door for a more rapid broad based appreciation in the Greenback back towards its key highs (EUR/USD lows) from early October.

On the data front, it was a very busy European session on Tuesday, but on the whole, the key standouts were some softer inflation data out of the UK and mixed German ZEW readings which continued to show deterioration. Sterling was one of the better performers on a relative basis, with the currency finding some bids on the back of broader risk liquidation exposing more vulnerable currencies like the Euro and commodity bloc. US equity futures and gold are lower on the day by a good amount, while oil trades flat.