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Euro Reaches Critical Short-Term Inflection Point; Stand Aside

Overall price action on Tuesday has been rather choppy, and although markets have remained confined to recent ranges, there is a growing sense that we could be on the verge of a breakout in either direction. At this point it is unclear which way we are headed but it feels as though we have reached some form of an inflection point. The euro’s rally on Monday was quite impressive, with the market breaking back above some key short-term resistance at 1.3690 before stalling out and consolidating. We contend that this will be the key market to watch over the coming sessions, with a break back above 1.3700 to signal a more significant rally and favorable reaction in risk correlated assets.

However, inability to establish above 1.3700 will keep the broader negative sentiment in play and likely open the door for a fresh wave of risk liquidation. Clearly, the prospects for a solution to the eurozone crisis are looking up following the Merkel and Sarkozy announcement on Monday, but at this point it is only a plan and there is a good deal of work that needs to get done before real results are seen. Slovakia’s resistance to the EFSF on Tuesday has not helped matters, while ECB President Trichet was on the wires with some downbeat comments. The fact that Trichet had said that the central bank had been warning governments of the threat to the economy is discouraging and only highlights the ongoing disconnect between the downturn in the economy and the ability for officials to respond accordingly.

Elsewhere, UK data highlighted the European session and produced an on the whole softer than expected industrial production reading (after revisions). Looking ahead, the Fed will release the Minutes from the previous meeting and this will likely influence price action into the North American afternoon. Otherwise, broader global macro themes and developments will continue to be of central importance. US equity futures and commodities prices are weighed down into the final session of the day.