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Euro Rebound To Be Short-Lived, Sterling Weakness To Gather Pace

Euro Rebound To Be Short-Lived, Sterling Weakness To Gather Pace

David Song, Strategist

Talking Points

  • Euro: Greece Bailout Talks Take Center Stage, Capped By 20-Day SMA
  • British Pound: U.K. Slips Into Another Recession, 50.0% Fib To Give Way
  • U.S. Dollar: Consolidates During Holiday Trade, Carves Out Higher Low

Euro: Greece Bailout Talks Take Center Stage, Capped By 20-Day SMA

The Euro advanced to an overnight high of 1.2681 as European policy makers spoke out against the slew of credit-rating downgrade by Standard and Poor’s, but threats of a Greek default could trigger another selloff in the exchange rate as market sentiment deteriorates. Indeed, talks surrounding Greece’s second bailout package will take center stage this week as the EU continues to push for a 50% haircut, but the group may be unable to reach a deal as European policy makers struggle to restore investor confidence.

In light of the ongoing turmoil in the financial system, there were reports that the European Central Bank was actively purchasing Italian and Spanish debt on Monday, but the Governing Council may have little choice but to further expand its nonstandard measures as the governments operating under the monetary union become increasingly reliant on monetary support. As we expect the ECB to ease policy further this year, the downward trend in the EUR/USD should gather pace over the near-term, and we should see the 23.6% Fibonacci retracement from the 2009 high to the 2010 low around 1.2630-50 give way as the technical outlook points to further declines in the exchange rate. As the euro-dollar remains capped by the 20-Day SMA (1.2900), the rebound in the exchange rate may serve as an opportunity to short the pair at a higher price, and we may see the exchange rate come up against 1.2500 in the coming days as the heightening risk for contagion continues to dampen the outlook for the single currency.

British Pound: U.K. Slips Into Another Recession, 50.0% Fib To Give Way

The British Pound climbed to 1.5383 amid the rebound in market sentiment, but we expect the sterling to weaken further over the near-term as the U.K. teeters on the brink of a double-dip recession. Indeed, the Centre for Economics and Business Research (CEBR) sees the Bank of England keeping the benchmark interest rate at 0.50% until 2016 as the region slips back into a recession, and warned of a pronounced economic contraction in the U.K. as the downturn in the Euro Zone – Britain’s largest trading partner – casts a dour outlook for growth. In turn, the BoE is widely expected to expand monetary policy further in 2012, and the GBP/USD may continue to give back the rally back from 2010 as the exchange rate struggles to hold up against the 50.0% Fib from the 2009 low to high around 1.5270-1.5300. In turn, we anticipate to see the pound-dollar to track lower in the days ahead, and we may see the exchange rate come up against the 61.8% Fib around 1.4850 as the economic docket on tap for this week is expected to highlight a weakened outlook for the region.

U.S. Dollar: Consolidates During Holiday Trade, Carves Out Higher Low

The greenback gave back the advance from the previous week, with the Dow Jones-FXCM U.S. Dollar Index (Ticker: USDOLLAR) falling back to 9,999 on Monday, and the reserve currency may continue to consolidate throughout the North American trade as U.S. traders remain offline for the Martin Luther King Jr. holiday. As risk appetite creeps back in the currency market, the lack of event risk could push the USDOLLAR back down towards 9,950, but we continue to hold a bullish outlook for the greenback as the index appears to have carved out another higher low in January. In turn, the index appears to be coiling up to make another run at the 78.6% Fib (10,117), but the developments coming out of the euro-area may continue to bear down on market sentiment as the ongoing turmoil in the region dampens the outlook for the global economy.

--- Written by David Song, Currency Analyst

To contact David, e-mail dsong@dailyfx.com. Follow me on Twitter at @DavidJSong

To be added to David's e-mail distribution list, send an e-mail with subject line "Distribution List" to dsong@dailyfx.com.

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