Euro At Impasse Versus US Dollar: Further Losses Or Sharp Bounce?

Fundamental Forecast for Euro: Neutral

- Euro traders look to European Central Bank to bail out Greece
- Greece remains top market mover, and Euro advances on government deficit plans
- EURUSD shows signs of divergence with Dow Jones Industrials

The Euro finished the week almost exactly unchanged against the US Dollar after falling, bouncing back, and falling again to where it began through Friday’s close. Pronounced choppiness in the EUR/USD was perhaps surprising given impressive gains in the US S&P 500 and other risk barometers and pointed to a short-term breakdown in a previously-strong correlation. Such directionless moves give us relatively little indication of what to expect in the week ahead, and comparatively little economic event risk has pushed volatility expectations lower for short-term price action. After a surprisingly lackluster financial market reaction to bullish US Nonfarm Payrolls data, one wonders whether limited event risk in the coming days can force substantive moves in the Euro/US Dollar pair. In fact, there are virtually zero traditionally market-moving events on the calendar. Possible exceptions will include German Industrial Production data on Monday, German Trade Balance figures the following day, and a European Central Bank monthly report on Thursday. None of these is expected to show any substantive shift and it would be a stretch to claim that traders should closely monitor said releases. Yet it is impossible to predict sudden price moves in financial markets, and we can only make best guesses as to when volatile price moves can occur.

It otherwise remains critical to monitor any and all developments in the Greek fiscal debt crisis. Greece’s recent steps to announce further cuts in spending and increased taxes seem to have placated markets. The Greek government successfully auctioned off €5 billion in fresh debt—something almost unthinkable just a short while ago. Vague pledges of support from the European Central Bank and Germany have likewise buoyed sentiment. Yet one has to wonder whether this is a temporary lull in distress and further signs of domestic civil unrest make proposed budget cuts untenable. Whatever the short-term outcome, we do not believe that Euro Zone sovereign debt problems will go away with one successful bond auction. It remains important to watch for more long-term solutions to ongoing regional political issues.

The Euro is at somewhat of an impasse. It remains in a fairly pronounced medium-term downtrend against the US Dollar in the context of many years of strength. A recent surge in Non-Commercial short interest in the EUR/USD suggests that losses may slow. Indeed, extremely one-sided EUR short positioning suggests that a sharp pullback would invite short-covering and pronounced rallies. Suffice it to say, traders should remain alert despite ostensibly limited event risk in the week ahead.

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