Euro_2009-10-16

Euro Near Major Top Against US Dollar, but Timing Anything but Clear

Fundamental Forecast for Euro: Bearish

-    Falling Consumer Prices force Euro Losses
-    Euro stems losses on strong earnings reports
-    EUR/USD Sell Recommendation issued at 1.5035

The Euro finished the week considerably higher against the downtrodden US Dollar, but late-week pullbacks showed that traders were not yet willing to push it above the key 1.5000 mark. A strong week for major corporate earnings offset fairly disappointing Euro Zone economic data, and indeed it seems that the risk-sensitive Euro has relied on rallies in broader financial risky asset classes instead of trading off of domestic developments. Global equity indices posted yet another week of gains, and the US Dow Jones industrials Average traded above the psychologically significant 10,000 mark for the first time in nearly a year. The key question going forward is whether the Euro can trade higher on its own merits.

Though it has benefitted from the general uptrend in financial market risk sentiment, traders are likely to scrutinize Euro fundamentals as it approaches fresh highs against the US Dollar. The fact that net Non-Commercial Futures positioning is at its most net-long since the EURUSD traded at 1.60 shows sentiment is at clear extremes, and the probability of a major EURUSD top has increased considerably. A relatively quiet week of economic event risk gives us little in the way of foreseeable volatility, but Forex Options markets volatility expectations have nonetheless jumped considerably on recent US Dollar tumbles.

Traders will keep an eye out for German IFO business confidence data and Industrial New Orders report, but the center of attention will likely remain the US S&P 500 and broader risky assets. The rolling 50-day correlation between the EURUSD and S&P currently trades just short of record highs—emphasizing exchange rate sensitivity to broader financial flows. Key indices have likewise set fresh 2009 highs and remain ripe for corrections. If we were the betting types (and we are), we would wager that the Euro trades near a major top versus its US counterpart. To borrow a popular trading cliché, however, markets can remain irrational for far longer than you can remain solvent. Of course in this case we might say “Sentiment can remain extreme for far longer than you can maintain proper available margin.” The timing of a key EURUSD top remains anything but clear, and the week ahead will likely produce sharp price moves across major forex pairs. - DR