Euro recovers from downgrade with a major bounce by Richard Driver of Caxton FX on 24-Jan-2012

The euro has responded impressively to Standard & Poor’s blanket downgrade of nine eurozone credit ratings. The market is extremely short of euros and what we are seeing is those short positions being covered, particularly as hopes are raised for a Greek deal on private sector creditors. Whether or not a deal emerges remains to be seen. 60-70% haircuts have been rumoured but until there is an official announcement, the market remains completely in the dark.

The euro benefited from some remarkably positive eurozone bond auctions; the impact of the ECB’s cheap loan offering in evidence once again. Spain in particular saw terrific demand and yields also eased. On the data front, there was a staggeringly strong German economic sentiment survey which contributed to the euro’s best week in months. The IMF joined the party on Wednesday, with reports suggesting that it would be making a further $1 trillion. This, predictably, was later revised down to 'several billion dollars'.

There have been some positive developments for the euro in the past week or so - S&P’s downgrade aside - but not enough to sustain further gains or even maintain current levels from our point of view.

Sterling struggling ahead of UK GDP and MPC minutes

Wednesday’s session is an important one as far as sterling is concerned. We will see the preliminary UK GDP figure for the final quarter of 2011, which is expected to show a marginal (0.1%) contraction. The minutes from the MPC’s last meeting a fortnight ago will also be watched closely for clues as to whether the Bank of England’s quantitative easing programme will be stepped up again in early February. Our bet is that it will, but downside risks for sterling should be fairly limited on this front, with the market having priced it in to a large extent. The UK GDP figure could well have a material impact on the sterling exchange rates if it undershoots already pessimistic expectations.

UK unemployment numbers reached fresh highs last week and UK inflation declined aggressively, neither of which is positive for the pound. On a brighter note, UK retail sales picked up a little in December, which was to be expected in light of November’s appalling showing.

End of week forecast
GBP / EUR	1.20
GBP / USD	1.55
EUR / USD	1.2950
GBP / AUD	1.49

The euro is trading strongly this morning on the back of some positive manufacturing and services PMI data. There have also been some positive political developments this week; Germany has stated it is open to increasing the firepower of the eurozone bailout fund and there has been progress on details relating to the permanent bailout fund – the European Stability Mechanism (to be introduced later this year). The euro should be able to hang onto most of its recent gains, though further climbs look a push. With GBP / USD at $1.56 and EUR / USD at $1.3050, the dollar looks ripe for a recovery soon.

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

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