Is There Major Buying In The EUR/USD Around The 1.30 Area?

 |  Includes: FXE, UDN, UUP
by: Ralph Shell

It seems when the euro approaches the 1.30 area, there is underlying support and the euro then rallies. Since the forex market, in total, lacks visibility we simply do not know what orders are lying in the weeds, undetected by the many market participants.

Recently there have been rumors of Chinese buying around the 1.30 area, and is given as a reason why the market is skittish when approaching that level. There are several suggested reasons for the Chinese buying interest. One theory is Europeans as the largest buyers of Chinese goods, may be bigger buyers if the euro is strong. Another theory for the Chinese support of the euro, is the Chinese wish to divest a portion of their reserves away from the USD.

Personally neither of these theories makes much sense to me, but if you are sitting at a poker table with the largest pile of chips, this may not foster rational behavior. There was an excellent article today, Avoiding the Euro Trap Zone by Andy Xie. The entire article is a good read, but I wish to touch some of the major points.

Mr Xie who was the former Chief Economist for Morgan Stanley in the Asia Pacific from 1997 to 2006 said:

"Europe's problems are its own making and no amount of Chinese assistance will end the crisis ... China Shouldn't Get Involved ...

European political leaders have been going to China frequently. Prime Minister Mario Monti of Italy is the latest. The objective is to get China to inject money into the euro zone, either through funding the International Monetary Fund, participating in the region's bailout schemes, or buying assets. It is a bad idea for China to get involved. Greek bondholders have suffered a 70 percent haircut. Such restructuring has occurred frequently in European history. Italy could restructure its debt also.

Chances are that the euro zone won't change its leisure-work balance. Fiscal austerity could only slow the increase in the region's debt. And the region's economies won't grow much for the foreseeable future. To meet the debt service on the existing stock, the real interest rate needs to be negative. The ECB has to expand money supply to stabilize the region's debt market, which causes inflation and a negative real interest rate. Investors in the region's government debts will lose money in real terms ...

Giving money to the IMF is the worst idea possible. It is under European control. China won't have any say in how the IMF channels the money into the region. Participating in the region's bailout schemes is similar to giving money to the IMF. China won't have a say in how the money would be spent. As the region is still not embracing reforms to enhance productivity, any bailout is just throwing good money after bad. It doesn't make sense for China to join such follies.

Buying assets, especially in countries like Italy, is a bad idea. The regulation regime and union rules make ownership not meaningful. Local businesses can keep control through political influence over various power blocks in the country. A foreign buyer could easily be robbed blind as the rules shift money from asset owners to workers. Unfortunately, the few cases of Chinese buying European assets fit this picture. Chinese buyers of European assets have done poorly. Until the region reforms to give ownership the same meanings as elsewhere, outsiders shouldn't buy European assets ...

China cannot save Europe. No one can. Only Europeans can, through increasing work relative to leisure. If Europe doesn't change, financial assistance merely postpones the day of reckoning."

These are pretty strong words from an economist, not ever to be confused with the words of a politician. We do not know if he has the attention of the Chinese leadership. Some perhaps, but when you have 1.3 billion people, there can be a lot of opinions.

Is the world becoming wary that there is insufficient financing for the European socialist states, and it is becoming even more acute when the growth rate falls far short of the interest rate. Compound this for a few years and finance your long term obligations with short term debt, and it may be time to start exploring the credit default insurance/obligations market.

Will the French elections influence the markets?

On Sunday we get the first round of the French elections. If the polls are correct, Merkel's buddy Sarkozy is headed for a run off against the socialist Hollande. It would seem obvious that the last thing that Europe needs is the agenda being proposed by the Socialists. No longer will the Germans and the French be preaching the austerity theme together. In fact, Hollande has a number of proposals to shorten the work week, increase the pay, lower the retirement age, increase taxes, and hasten the day when France will become the next ward of the world.

How will the market receive these potential changes? We will look at this tomorrow.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.