Spreading Infection: Quick Thoughts on the Euro, USD

|
 |  Includes: BNO, ERO, FXE, OIL, UDN, UUP
by: Mercenary Trader

by Jack Sparrow

Excellent embedded graphic from The Economist (below) in a daily chart piece titled “Spreading Infection” — the infection, in this case, being the euro (or rather euro-related troubles).

The inner contrarian in yours truly can’t help but look at ongoing euro strength — and corresponding $USD weakness — and salivate. The prevailing logic driving euro strength seems utterly backwards, or at the very least subject to rapid time decay.

Trichet and the ECB are willing to raise rates almost irrationally, regardless of periphery weakness and the deflationary overhang of untenable sovereign debt; the Bernank and the Fed, meanwhile, are willing to keep monetary policy loose regardless of an improving U.S. economy and budding “non-core” inflation threats. Therefore, buy euros and sell dollars, yes?

And yet…

The $USD has remained weak not because its “crisis” role has been abandoned, but because Mr. Market has not elected to view Middle East turmoil as a true crisis just yet. The euro’s strength, meanwhile, is predicated on a “crisis contained” mentality that presumes euro politicians have once again successfully kicked the can down the road. And there seems to be no reflection in current forecasts of who would be hurt worse by a true oil shock — Europe or the U.S. (Brent vs WTI anyone?)

For a whole host of reasons, it is easy to see this sanguine view of the world turned upside down without much trouble: In an environment where sovereign debt crisis returns to the fore, or peripheral euro zone countries slow enough due to oil shock, or any other number of things — in which the general health of the U.S. economy is revealed as stronger than Europe’s by the way — the $USD could once again be a contrarian buy.

The greenback is most definitely a “big trend” candidate for 2011…

Disclosure: As active traders, authors may have positions long or short in any securities mentioned. Full disclaimer can be found here.