Market Overview

Euro Rises Above $1.45 as U.S. Comes One Day Closer to Default

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The euro surged on Tuesday against the U.S. dollar as the U.S. wasted another day in failed attempts to resolve its debt crisis. Presently, the euro is trading around $1.4504, or 0.89% higher than previous close. The euro strengthened against the Japanese yen as well, rising 0.65% to stand around ¥113.26.

It seems the EU has managed to persuade investors that its new bailout package for Greece will work as yield spreads on Italian and Spanish bonds fall. On Tuesday, Italian/German 10-year bond spread fell 12 base points to 280 base points. At the same time, Spanish/German 10-year bond spread fell 10 base points to 318 base points.

The Europeans were forced to bail out Greece, Portugal and Ireland and the pressure has been mounting on Spain and Italy. However, these economies might be too big to fail, but they are equally too big to save. If Spain and Italy were cornered into asking for a bailout, it would be very difficult for the Eurozone center, led by Germany, to gather sufficient funds and public support for bailing out Europe's fourth and fifth largest economies. The deal reached by the Eurozone leaders last Thursday seems to have helped Italy and Spain recover market confidence.

The Europeans are not off the hook yet, however. Greece is still in big problems as traders' focus shifts on implementation. It is one thing to agree painful austerity cuts with the Eurozone leaders in Brussels. It is completely different story when these cuts will have to be sold to the Greek public, which is presently vehemently opposed to the government's savings measures.

The euro was also supported by better than expected consumer confidence data in France. According to Insee, French consumer confidence rose for the first time this year to 86 in July from 83 in June, when most analysts expected the July figure to be 82. France is the second largest economy in the Eurozone and has been one of the main locomotives of the Eurozone recovery. Traders will be pleased with the recent data as it suggests that the French locomotive is not running out of steam.

Germany produced less admirable data on Tuesday, however. According to Gfk Group, German consumer confidence is expected to fall to 5.4 in August from 5.5 in July. Germany has been the main driving force behind the Eurozone recovery, as well as the bailouts of Ireland, Portugal and Greece. It is painfully obvious that bad news for Germany is bad news for the Eurozone. Traders will be hoping that the recent dip in consumer confidence is an isolated “incident” and that Europe's largest economy will continue to grow strongly.

Across the Atlantic, the two sides seem to put more effort into ensuring the other side takes the blame for the U.S. national default than into resolving the differences between the two main parties. After another day of failed negotiations, President Obama and John Boehner, the leader of the Republicans in the House of Representatives, have traded blows. Obama stressed that Republicans are not being reasonable by not accepting his proposal, which tries to distribute the costs of debt reduction among the well-off and not so well-off. John Boehner refused to back down and accused Obama of asking for a blank check.

Presently, it seems the two sides are ready to bring this issue to the electorate, which means they are prepared to let the U.S. default and then let the people decide in next year's election which side was being unreasonable. However, the U.S. default will most likely be a shock for the country's already fragile recovery. Even worse, the crisis in the U.S. could easily push the global economy into recession.

ACTION ITEMS:

Bullish:
Traders who believe that the Eurozone came up with a credible plan for resolving the debt crisis on the Eurozone periphery, while the U.S. will be less successful in resolving its debt woes, might want to consider the following trades:

  • EUR/USD Exchange Rate ETN (NYSE: ERO) is a long play on the euro. ERO should rise if the euro appreciates.
  • Market Vectors Double Short Euro ETN (NYSE: DRR) is another long play on the euro. DRR should rise more than ERO if the euro appreciates.

Bearish:
Traders who believe that Greece will be back into the spotlight very soon as it fails to implement the agreed reforms, creating a lot of headwind for the euro, may consider an alternate positions:

  • ETFS Short Euro Long US Dollar ETC (Sterling) ETF (SEUP) is a short play on the euro. SEUP should rise if the euro depreciates.
  • ProShares UltraShort Euro ETF (NYSE: EUO) is another short play on the euro. However, EUO should rise more that SEUP if the euro depreciates.

Neither Benzinga nor its staff recommend that you buy, sell, or hold any security. We do not offer investment advice, personalized or otherwise. Benzinga recommends that you conduct your own due diligence and consult a certified financial professional for personalized advice about your financial situation.

 

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