Euro Currency At 1.2000?

By Alan Bush, Archer Financial Services

Last week's selling in the euro currency, due to increasing worries that the euro zone economy will continue to weaken, took prices to more than a 16-month low against the U.S. dollar. Pressure on the euro resulted after the Federal Statistics Office said Germany's economy probably contracted in the fourth quarter by .25% from the third quarter, while the European Union reduced their euro zone growth estimate to .1% in the third quarter from the .2% growth they had previously estimated. In addition, a Bloomberg survey showed the euro zone economy will probably shrink by .2% this year.

EURO CURRENCY FUTURES - MONTHLY CONTINUATION

Chart provided by APEX

Another ominous indicator of the future of the euro zone's economic outlook was the shocking results of a German Treasury bill auction. Germany sold six-month Treasury bills at a negative yield for the first time ever. The 3.9 billion euro offering, maturing this July, was sold at a negative .01% yield. This unprecedented negative yield is a clear sign that investors are attempting to preserve wealth, rather than to maximize income, as evidence grows that the euro zone will enter into a recession. In addition, some of the recent weakness in the currency of the euro zone was attributed to last week's lukewarm demand for the 10-year German bund auction.

The future of the euro currency came more into question on Monday when the euro zone's bailout fund, the European Financial Stability Facility, lost its top credit rating. This took place after Standard and Poor's downgraded the debt of France and Austria by one level on January 13. The new rating from S&P for the EFSF is now AA+, which compares to their previous rating of AAA. In addition, the German retail sales report last week, reinforced ideas that the euro zone is headed for recession. German retail sales declined .9% in November, when a .2% increase was anticipated.

Recent employment news has been mixed. The November unemployment rate in Italy increased to 8.6% and joblessness in Spain advanced to a record 22.9% in November. On the bullish side, 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.

Not all of the euro zone sovereign debt auctions have been bearish. For example, several of the more recent euro zone sovereign debt auctions were well received. Spain sold 9.98 billion euros of debt, which was almost two times the target of 5 billion euros that had been planned and Italy sold 8.5 billion euros of debt at a yield that was much lower than dealers had anticipated.

Some traders have been encouraged by the recent well-received debt auctions in the euro area. However, much of the demand for all of this debt is probably coming from banks that have recently accepted massive amounts of three-year loans from the European Central Bank. Therefore, the recent better than expected euro area debt offerings may not be that bullish for the euro after all. Some of the strength in the debt offerings was due to comments from European Central Bank President Mario Draghi when he said his strategy to avert the euro area's financial crisis is working.

Also supportive, at least on a short-term basis, to the euro were some of the economic reports that were stronger that analysts had anticipated. For example, there was news that German investor confidence improved from a very low level in January. The ZEW Center for European Economic Research said its index of expectations for business conditions improved to -21.6 from -53.8 in December. A reading of -49.4 was anticipated. In spite of the better number, the economic outlook remains dire.

CONCLUSION

Although there is no shortage of economic and political problems in the U.S., it appears that the strains on the financial system in the euro area are much more severe. The ongoing financial problems in the euro area, including fears that the euro zone economy will enter into a recession are likely to remain well into 2012. There is likely to be increased motivation for market participants to move out of the euro currency and into the relative safety of the U.S. dollar. In the longer term, the euro is likely to continue to be pressured by increasing prospects of a recession in Europe, sovereign debt downgrades, along with bearish interest rate differentials.

The main trend for the euro currency is lower, with the next downside psychological chart objective coming in at 1.2500 to be followed by a test of the 1.2000 level.