Currency Contest

Euro Could Rally Back Above 1.3700 Before Renewed Selling

Joel Kruger,

The Euro continues to defy gravity and for the time being, has managed to hold above some key short-term support at 1.3420. Market participants are perplexed with the ability for the currency to hold up despite a plethora of Eurozone negative developments, the latest of which being warnings from Moody’s on France’s credit rating. The infection from the periphery has officially spread to the core economy and we see no evidence of amelioration any time soon. Overall risks to the global economy are also tilted to the downside and our core bullish US Dollar outlook remains firmly intact as we look for the Greenback to continue to build momentum over the coming weeks and months.

We even project USD upside against the Yen, with the Japanese currency at risk for some official intervention to offset the rapid appreciation we have seen in the Yen over the past few years. FinMin Azumi was on the wires earlier in the day and warned of the potential for more government intervention to weaken the Yen. Elsewhere, market participants have been paying attention to comments from the World Bank that China faces growing risks from the Eurozone debt crisis, with any slowdown in China likely to have a more debilitating effect on the global recovery.

We continue to forecast this scenario and see a major slowdown in China representing the third wave of the global recession. We have been buying the Euro against the higher-yielding Aussie because of this, as we see risks that have already been priced into the Euro being excluded from the Chnia-correlated Aussie. The long EUR/AUD trade from 1.3300 is starting to pick up steam and we see room for a major upside appreciation towards the 1.6000 area over the coming months.

Technically, we continue to defer to the EUR/USD monthly chart, which has been extremely useful this year. The market looks like it has been in a steady downtrend since positing record highs in 2008, and is now in the process of a carving out the next major lower top below 1.5000 ahead of a retest of some multi-month range lows in the lower 1.2000’s. Once the lower 1.2000’s are tested, it is entirely possible that we see further acceleration towards parity, but at this point, it is way too premature to make such calls and we will have to step back an reassess when the market gets down to our lower 1.2000 area objective.

CAVEAT: Over the coming sessions, there is however risk for some short-term selling in the buck on broad based buying of currencies. Fundamentally, it is difficult to reconcile the prospect of a currency rally in the current market environment, but perhaps some behind the scenes coordinated action to prop the Eurozone economy could be helping to keep market supported for now. This could then translate in a move for the Euro back above 1.3700, which in turn will prop the broader market, including other risk correlated assets like global equities. Another consideration to price action over he coming days needs to be the anticipated lightened trade into US Thanksgiving holiday. Markets are always funny around these times and often react in counterintuitive ways. As such, the strategy should be to look to only buy the US Dollar on additional dips or on a break to fresh multi-day highs beyond the previous weekly highs. Anything in between is viewed as choppy directionless consolidation.

Looking ahead, the economic calendar picks up into North America, with US GDP and Canada retail sales due early on, followed by the release of the FOMC Minutes into the North American afternoon. On the official circuit, Fed Kocherlakota is slated to speak in Canada. US equity futures are moderately bid, while gold and oil are tracking a good deal higher.