Currency Commentator: Euro to Possibly Trend Much Lower

The European Central Bank’s cheap loans released on Wednesday helped to decrease the bond yields of some of the debt ridden countries to prevent any non-sustainable levels. European Central Bank’s President Mario Draghi comes under fire now with concerns that out of the approximate $1 trillion euros of the three-year loans that $777 billion euros of the commercial banks, redeposit the funds back into the European Central Bank’s overnight deposits.

This move was more of a time delay for the Euro Zone to execute reforms and restructure some of the debt. The Euro FX has not benefited from the monetary policy and is thought to possibly trend much lower perhaps to lows below $1.2700. Greece has so far complied with measures necessary to complete the agreed reforms and bond swap to receive the $130 billion euros tranche of bailout aid. The bond swap must be concluded by March 9th to meet the deadline of March 20th. The private creditors must take losses of 53.5 % of the nominal value on the Greek bonds. The deal has benefits to make the loss more appealing by including the European Financial Stability Facility bonds as part of the swap. Greece needs a 90 % participation to make the bond swap sustainable.

Today, 25 members of the European Union met in Brussels to sign the “fiscal compact” which was derived at a previous meeting. Only 2 had not signed the treaty, the UK and Czech Republic. This is only relevant to those members wishing to adopt the Euro FX. Those countries that are now part of the treaty must maintain a balanced budget rule, cannot have a deficit to exceed 0.5 % and must maintain a deficit in line with the GDP of the country.

The Euro FX had  fell sharply today as Spain set a fiscal target that was out of line with the new “fiscal compact”! They set a deficit target of 5.8 % of the gross domestic product while they had previously agreed to 4.4 %. Spain also should be announcing budget cuts of about $15 billion euros to comply with some of the reforms. Spain has an increased  jobless rate of 2.4 % with 4.7 million people out of work. Spain’s economy is forecast to contract about 1 % this year.

Fitch’s credit ratings agency had supported the deficit target of Spain with remarks that it may be more realistic and should not hurt the credit rating. Prime Minister Mario Monti had prioritized the austerity budget for Italy, but the same measures that saved the country from default may slacken the growth for the years to come. The Euro summit scheduled for March 30 and 31st may be focused on a firewall to insure the debt crisis will not have contagion effects.

The European Financial Stability Facility had been named the temporary fund to aid in the debt crisis with $250 billion euros left in it. The European Stability Mechanism had been deemed the permanent fund with $500 billion euros. The summit may re-evaluate the power of the funds and create a sort of ‘superfund’ combining the funds for the European Stability Mechanism. The temporary fund had been set to function until around June or July of this year. The debt problems seem to snowball over time. Where consumers have little to no money to spend, demand for products fall reducing the potential work force along the way.

The European money market funds had outflows of about $13 billion in the last week. Outflows from the stocks and bond funds were in some cases re-allocated into the US funds boosting the Treasuries and the US Dollar. Currency speculators have 35,726 net longs verses 145,402 net short in the latest week. The Euro FX technically may trend lower for some time, but the bounces may make an outright short position difficult.
 
Options may be used in volatile market conditions where stops often are taken out too often. 
 
Sample Option Trade:
 
Buy Euro FX (June) $1.2500 Put for .00780. This option would cost $975.00 plus commissions and fees which would also be the potential risk. The option premium would be monitored for increases or decreased and exited at the trader's discretion. The expiration would be June 8th.