EURO In Correction Not Trend Change

Phew, the EUR selling finally stopped! Many EUR longs were close to pulling the trigger and use their get out jail card, with promises of trading another currency that relies on the fundamentals rather than having to understand the Euro political and cultural dynamics so deeply. This morning, the regions asset classes are on their way up after the latest sharp selloff was fueled by political and economic uncertainty from two of the periphery’s heavyweights, Spain and Italy. However, is this rebound to last?

A quote from Spain’s PM Rajoy, relating to allegations of a slush fund, sums up the state of European politics: “Everything that has been said about me and my colleagues in the party is untrue, except for some things”. That’s why Spanish equities recorded losses of -4% yesterday, and why individuals are questioning their own confidence levels about the region.

In Italy, “bad boy” Berlusconi has pledged to turn back the current conservative fiscal policies if re-elected later this month. He is buying votes by promising tax cuts. Political success depends on how corrupt one is, so it seems the more you are, the higher in politics one goes, in Italy anyhow! Not providing investors much confidence is the general health of the Italian Banking system. It seems that markets may be relying too heavily on Draghi and the ECB, assuming that they would be bailed out with the outright monetary transactions. These Euro problems are not going away that easily and depending on a manmade backstop forever just won’t work.

Be prepared to be PMI’ed from Europe and North America. Earlier this morning, the Euro-zone business activity shrank at its ‘least severe’ rate in 10-months (PMI 48.6 from 47.2x). Despite being weak, it’s now less weak and perhaps it may have passed the worst point? At least that’s the story being thrown around. It is no surprise that the resilience from the currency bloc’s economy was due to solid growth in Germany. Unlike France, business activity there fell at its sharpest rate in four-years.

The UK service sector PMI for January came in at 51.5, much stronger that the 49.5 that was expected. Will the data happen to change the new governor at the Bank of England’s policy course? This service data, along with the UK’s manufacturing PMI’s and construction reports does very little to suggest that the ‘on hold’ stance will change anytime soon. Analysts believe that “it would take a significant downturn in sentiment indicators to suggest that QE will come during H1” in the UK.

Looking beyond Europe, investors were preoccupied for a moment by the RBA’s decision to keep rates on hold overnight at +3%. While the RBA’s assessment of economic condition was slightly more upbeat, the statement continued to point to an easing bias (the doves are still alive), noting “the inflation outlook, as assessed at present, would afford scope to ease policy further, should that be necessary to support demand.” This has the AUD on the back foot and vulnerable to more easing, last experienced in December. The country reported a trade deficit of -A$427m, led by stronger iron-ore shipments, from a revised -A$2.79b deficit in November.

The ECB and BoE will conclude their monetary policy meetings later in the week.

Economic releases Stateside should see US services PMI ease to 55.0 from December’s 10-month high of 55.7. More importantly, despite potentially moderating, the print will remain in growth territory. The index is currently running above the long-term average of 53.9. Just north, it’s largest neighbor Canada is expected to see some improvement in its Ivey PMI. Analysts are looking for a headline read to tick higher from December’s 52.8 reading to 54.0.

The EUR found support below 1.35, fuelled by EUR/JPY again, with a massive buy order out of the Middle East. Most of the single currency’s biggest right-hand-moves of late have been Yen supported or initiated. This base is clearly being influenced by Central Bank buying interest. The Interbank market tried in vein to trigger stop-losses sub-1.3460, ran into these CB support, got themselves short and now have been chasing the EUR higher ever since. If EUR/JPY remains bid then outright EUR direction is confirmed. The pace of this rally suggests that investors are not well positioned for further topside gains. The speculators like a giggle and are looking to sell into this rally close to yesterdays top.

Forex heatmap

Other Links:
Momentum Selling Has EURO Longs Seeking Exit

This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell