EUR Only Grinds Lower

EUR remains on the back foot as we round off the week and is likely to stay on the defensive after this week’s massive cash injection by the ECB. The take-up by 800 banks of just over half-a-trillion EUR’s of ‘cheap’ cash (LTRO), an alternative form of QE, should be making it attractive to use the single currency as a funding currency to buy higher yielding assets.

Recent price action is not aggressively pushing the EUR lower versus its emerging market compatriots just yet. Why not? The market does not seem to have the appetite to buy into the emerging currency crosses at these levels because positioning has already seen the regional pairs have a decent rally year to date outright versus the EUR and because of central bank actions. Monetary authorities have been busy slowing the appreciation of their own domestic currencies.

The ‘killjoy’ in this risk scenario may be the reemergence of higher oil prices and its effect on global growth. However and until then, higher crude prices continue to weigh on the JPY, as Japanese importers’ demand for the dollar has been consistently steady after the shutdown of nuclear reactors in the country. The reasonably positive risk environment maintains the JPY, just like the EUR, as a preferred funding vehicle. The Bank of Japan’s Governor Shirakawa has reinforced their pledge to continue easing until their inflation goal of +1% is met resulting in further yen weakness.

Investors have been using the short EUR/CAD trade to take advantage of rising oil prices and increased risk sentiment. With a little bit of homework, investors are able to apply partial or full hedging opportunities for varying degrees of risk trades. In this situation, CAD as an interest rate commodity sensitive currency, it’s preferable to own the CAD on the cross rather than outright. One would describe it as a ‘straight’ trade encompassing the debt crisis in the Euro-zone and the rise of commodity prices. Outright against the dollar, currently the currency is guilty by association, especially with just under +70% of Canadian exports heading south of the border. If Canadian GDP data for Q4 later this morning is positive, then expect CAD to rise further. If the data disappoints, then CAD will suffer, but not so much as long as oil remains better bid.

Not helping the EUR this morning, pushing it to new weekly lows, was the German real seasonally adjusted retail sales falling sharply in January. The -1.6% decrease was much greater than market anticipation of a +0.3% increase. Perhaps a saving grace is that forward looking indicators point to rising consumer confidence among Germans, which could bode well for future retail sales. Again, expect the market to focus on oil prices, as rising oil prices tend to keep consumption in check.

From the above chart, on the week EUR bears have been paring back some of their shorts with some believing that close to a three cent pull back is worth it as we head into another event laden next week, dominated by monetary policy meetings and employment data.

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