Upbeat Europe hit by S&P downgrades - Business Works
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Upbeat Europe hit by S&P downgrades

Richard Driver of Caxton FX T here was some reason for optimism as far as the eurozone is concerned last week. A Spanish bond auction saw twice as much demand than expected, with yields also coming down. This helped brighten the mood in the market, which was built upon by the more optimistic tone struck by ECB President Draghi at his monthly press conference. Draghi celebrated the positive impact on eurozone liquidity and bond yields that the ECBís cheap offering of cheap loans has had. He also gave a more balanced view about the risks of a eurozone recession and deflation.

However, the rug was pulled out from under the euro by rating agency Standard & Poorís. We were confident S&P were going to take action and when the rumour came out on Friday (the 13th!) that France was to lose its AAA rating, the euro declined aggressively. As it turned out, Austria joined France in suffering a one-notch downgrade. Several other eurozone states were downgraded by two notches, including Spain, Italy and Portugal. This blanket seven-nation downgrade came sooner than the market was expecting and hurt confidence as you would expect. Importantly, German debt was untouched by S&Pís axe, helping to ensure that a more extreme euro-collapse was avoided.

EUR / USD fell by two cents on the news, and GBP / EUR gained by a cent and a half. Reports out of the Greek negotiations on private sector involvement in bond write-downs (haircuts) revealed a lack of consensus and that talks are stalling, which is also weighing on sentiment and adding to fears of Greek default.

Data last week revealed that the eurozone economy as a whole grew by 0.1% in the final quarter of 2011, which was a downward revision from the initial estimate of 0.2%. It goes without saying that the debt crisis is likely to ensure the region heads into negative growth this quarter. The week ahead brings an important German economic sentiment survey, which is likely to highlight diminishing confidence levels in the eurozoneís powerhouse.

Poor US retail figures strengthen the case for QE3

Retail figures undershot expectations last week, suggesting all is not well with regard to the upturn we are seeing in the US economy. That said, excellent consumer sentiment data pointed to an improvement in confidence levels. Nonetheless, with inflation likely to ease this year, the US Federal Reserve may well decide to add further stimulus to the US economy (introduce QE3). Recent speeches from Fed policymakers have certainly been noticeably dovish, so there is clearly a material risk of QE on the horizon.

End of week forecast
GBP / EUR 1.2150
GBP / USD 1.54
EUR / USD 1.26
GBP / AUD 1.51

Sterling is back trading up at sixteen month highs of €1.21 and the outlook is still pretty positive from where we are standing. Again, against the US dollar, things are a little gloomier. GBP / USD is trading down at eighteen month lows of $1.53 and is threatening a further move lower. UK unemployment and retail sales provide the highlights for sterling this week, which will almost certainly trigger further speculation of the introduction of more quantitative easing from the Bank of England next month. Both figures are actually expected to tick up, which provide sterling with a little support.

Richard Driver is a Currency Market Analyst with Caxton FX and can be contacted via: www.caxtonfx.com

This brief is prepared by Caxton FX Ltd for information purposes only and may contain personal views that are not the opinion of the company. This is not an offer to purchase or sell any security or an investment advertisement. Caxton FX Ltd is authorised and regulated by the Financial Services Authority, although foreign exchange transactions with Caxton FX are regulated by HM Revenue and Customs. This email does not constitute advice for any foreign exchange transaction, nor is it intended as a solicitation for funds or recommendation to trade.

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