Euro Reaches 6-Week Peak

 |  Includes: FXB, FXE, UDN, UUP
by: John M. Mason

A sign of the current short-term calm in European financial markets is the fact that the euro hit a six-week high against the dollar. On Tuesday, December 4, the euro traded above $1.3100.

Earlier this year, in February, another time that European financial markets achieved some peace, the euro traded around $1.3500.

However, the British pound also hit a near term peak on Monday, closing at $1.6115. In the middle of September, the value of the pound rose to about $1.6250 and in February, it traded just below $1.6200.

When risk is of major concern, investors move into the dollar and out of the euro and the British pound. When the concern over risk lessens, then the movement is back the other way.

One should also mention, however, that the U.S. Dollar Index computed by The Wall Street Journal dropped to around 79.60 Tuesday. Two weeks ago, the index was above 81.00. Note that the U.S. Dollar Index dropped significantly below 79.00 both in March and May of this year. So the dollar is not showing much strength against any major currency these days.

It is important to note that over the past few weeks, interest rates in Europe have fallen substantially, especially interest rates on the 10-year debt of sovereign nations that are "distressed."

First of all, the yield on the German 10-year bond dropped below 1.40 percent in early November, and traded close to a yield of 1.30 percent for several weeks before moving back into the 1.40 percent range.

In the United States, the 10-year Treasury issue broke below 1.70 percent in early September, and then moved slightly below 1.60 percent in the middle of the month. It has bounced back a little since then, but has not moved back up as much as the German yield.

The crucial fact is that the troubled nations of Europe saw a tremendous drop in yields over the past month or so. For example, when the German yield dropped below 1.40 percent in early September, the 10-year yield on Spanish bonds was 5.70; for the debt of Portugal, 8.50 percent; and for Greek debt, 17.45.

On Tuesday, December 4, these yields had dropped to 5.25 percent for Spain, 7.60 for Portugal, and 15.10 for Greece.

The point is… something has changed in Europe.

Confidence has picked up. The Greek government's buyback of bonds has succeeded.

The eurozone has seemingly solved its problems. At least allof these market indicators would seem to point in that direction.

I don't think so. This just seems to me to be one of those calm periods between times when all the difficulties still remain.

The fact is that one… two… three… or possibly more countries in Europe are insolvent. In these countries, debt repayment should not just be pushed off into the future -- debt needs to be written down now.

Furthermore, Europe is in a recession. Unemployment is extraordinarily high, reaching 25 percent in some countries like Spain. Manufacturing activity is still shrinking in most European countries, according to the latest figures released on Monday. Many banks are not solvent.

The European Union is still tossing around ideas about a banking union… something drastically needed.

But according to the Financial Times, "Plans to create a eurozone banking union hit a brick wall on Tuesday after Germany's influential finance minister cautioned over moving too quickly, casting doubts over whether the EU would seal a deal by the end of the year."

Seems Wolfgang Shauble, the German Finance Minister, put the skids on the deal today.

And plans for a eurozone fiscal unity plan have receded into the background, postponing any possibility that the euro countries will get their fiscal affairs aligned.

In addition, everyone is waiting for Angela Merkel, the German Chancellor, to execute her "German plan." This will not happen soon, however, because we still have to wait for the German elections to happen in 2013. But she has a plan for Europe, and sooner or later, her plan will be fully revealed.

There is going to be more action here, in the bond markets, in the equity markets, and in the foreign exchange markets.

To me, the Europeans still have a long way to go. The action is going to be an on-again, off-again adventure. In my mind, the story is a long way from over, and there will be plenty of opportunity for people to make money in the swings in the various financial markets mentioned above.

The problem, of course, is not to be too early. And of course, since the markets will move very rapidly when they do start off in one direction or the other, don't be too late. If you miss any turn, you should just wait for the next change in direction… for there are still several more ups and downs to go through.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.