BEAR MARKET FOR THE EURO CURRENCY IN 2012

This week’s selling in the euro took prices to a 15-month low against the U.S. dollar and a 10-year low against the Japanese yen. The euro remains under pressure after a report showed the rate of inflation in the euro zone slowed. This enhanced the case for additional easing of credit from the European Central Bank, which is bearish for the euro from an interest rate differential point of view. In addition, there are renewed concerns about the financial health of the euro zone.

EURO CURRENCY FUTURES - WEEKLY CONTINUATION

Chart provided by APEX

Much of the pressure on the euro was linked to news that Italy auctioned only 7.02 billion euros of debt in a recent auction, which was short of the anticipated target level of 8.5 billion euros. In addition, there is a lot of Italian debt to be refinanced in an environment where the longer dated maturities of Italian debt offerings are becoming more difficult to sell. In just the February through April period of 2012, Italy needs to refinance almost 150 billion euros of debt. Lower yields are imperative for Italy to be able to service their debt burden. The 7% and above level is considered to be critical, since it is where yields on Greek, Irish and Portuguese debt increased to before they sought bailouts from the European Union. Some analysts believe Spain will soon be having the same financial problems that Italy is experiencing now.

In addition, there is a growing feeling that euro area financial institutions will be forced to raise more capital. Highlighting the concern was the decline in the share price of the largest lender in Italy to the lowest level since 1992 after the company said it will sell new shares on January 9 at a price that is substantially below their book value.

Recent commentary from euro zone leaders has not helped the cause of the bulls on the currency of the euro zone. For example, Spain’s Economy and Competition Minister recently said the country’s economy is in “relapse” and will contract. Greek Prime Minister Lucas Papademos did no favors for the euro when he said Greece may be forced to contend with an economic collapse as soon as March.

Not all of the news from the euro area is bearish, however. For example, the euro temporarily gained after a report showed German unemployment declined in December by more than analysts expected. The Federal Labor Agency reported unemployment in Germany declined 22,000 to total 2.89 million. A 10,000 decline in unemployment had been predicted by economists.

In addition, there was temporary support for the euro after Italy’s Prime Minister, Mario Monti, said an economic growth package will be presented to European Union finance ministers on January 23. He did not rule out the possibility of proposing a plan that would include more aggressive efforts to reduce government debt.

The euro initially firmed on news that the European Central Bank planned to loan 523 euro area financial institutions 489 billion euros, which is a record amount of funds, for three years. Analysts were anticipating the amount of the loans would total only 293 billion euros. The value of euro currency futures came under pressure in a delayed reaction when traders and analysts reassessed the market impact of the larger than anticipated loan totals.

It took a while, before traders correctly reassessed the implications of the massive loans and decided the market impact was a net negative, since the larger amount of funding asked for by euro area banks was actually a sign of financial distress.

More recent pressure on the euro came from a report that showed German retail sales declined .9% in November, when the median estimate called for a .2% increase. Also, some of the recent weakness in the euro was attributed to the lukewarm demand for the 10-year German bund auction.

MORE REASONS TO BE BEARISH ON THE EURO

1) There is a feeling that the European Central Bank will need to add more reserves to the banking system, which is bearish for the euro from an interest rate differential point of view.

2) Any recover gains in the euro are likely to be limited by threats from major credit rating agencies to lower the AAA credit rating of France.

3) There is a growing feeling that the debt crisis in the euro area will continue well into this year.

4) Our analysis suggests the euro zone economy will enter into recession in the first half of 2012.

The main trend for the euro currency is lower, with the next downside chart objective coming in at 1.2500.