The market has spoken in response to the changing political tide in Europe, and the market is apparently not thrilled. The euro slid almost the entire week against the U.S. dollar, ending the week at fresh four month lows.(click to enlarge)
The euro looks set to lose all its gains against the U.S. dollar for 2012
Two months ago, I wrote "Nassim Taleb Likes Euros And So Should You." I believe Taleb's fundamental premise is that the EU has (or is) addressing its debt problems in a way that will provide future support and strength for the currency. French President-elect Francois Hollande will likely throw a wrench in Taleb's assessments as he is likely to increase the debt in order to fund pro-growth initiatives. However, it remains to be seen just how much Hollande can actually accomplish. He is claiming that Sarkozy's government udnerestimated the depth of France's budget woes, yet insists that he took this into account when creating his own budget plans. Moreover, the European Commission estimates 1.3% growth for France next year under existing policies, while Hollande targets a mere 1.7%. The commission also sees a 4.2% budget deficit while Hollande projects a 3% budget deficit. In other words, it almost seems as if Hollande is promising growth and a rollback of austerity that will all reduce the deficit but generate marginal extra growth. Seems like a recipe for major disappointment in 2013, and the market looks ready to discount that.
Given this backdrop, I am even less interested than before to play the euro long against the U.S. dollar (FXE). I am actually positioned bearishly for now. I continue to accumulate (slowly!) euros against the British pound, as I believe the Bank of England (BOE) will soon be forced to try talking down its currency to boost the UK's growth economic prospects (for example, see "Austerity Under Fire: One Of Several Economic Drags On The U.K. Vs. The U.S.").
To me, the big wildcard in foreign exchange is the Swiss National Bank (SNB) and capital flows in and out of Switzerland. As the euro presumably continues to weaken, will the SNB be able to continue supporting the 1.20 floor against the euro (EUR/CHF)? In March, HSBC noted that Swiss citizens repatriating francs drove the sharp franc rally in 2011, not a massive influx of foreign (European) funds (see "All You Thought You Knew About The Swiss Franc Is Wrong -HSBC"). The current floor has held because these same citizens have turned around and shopped for foreign assets. How much longer before Swiss investors retract again in the face of an increasingly dire outlook beyond their borders? Moreover, what happens when/if investors in the eurozone really DO flock to Switzerland? I cannot guess where a breaking point might occur, but I am now preparing for it by slowly building a position against the U.S. dollar (FXF).
At some point soon, I will become net long the Swiss Franc, primarily against the U.S. dollar. (I never switch positions on and off and prefer to move in sliding scales that provide flexibility to make short-term trades hedged against existing positions). I am moving slowly as it is entirely possible the SNB may in the near-term attempt a pre-emptive strike with a higher floor (like 1.25 or 1.30). EUR/CHF has seen little excitement all year, bouncing in a tightening range from 1.22 to 1.20. Since SNB established the 1.20 floor in early September, EUR/CHF has peaked under 1.25 and then slowly declined from there. I am guessing the fireworks will soon reignite.(click to enlarge)
Currency traders are slowly but surely edging towards a showdown with the 1.20 floor on EUR/CHF
Finally, as the euro sinks and pressures mount for pro-growth initiatives, I get more and more interested in eurozone stocks, especially those in the German industrial sector. Siemens AG (SI) is currently trading at critical support that has held since early 2010. It has a trailing P/E of 15 and forward P/E of 9 with a price-to-sales ratio at 0.8 and a price-to-book at 1.9. All these metrics are at a minimum 10-year low measured on an annual basis. I would start buying now, but I am expecting support to soon fail. Once the stock gets to $75 and below, with a sinking euro, I will consider slowly building a position in anticipation of an eventual turn-around. (I recently closed out puts against Siemens).(click to enlarge)
Siemens looks ready to break through long-standing supportSource for all charts: FreeStockCharts.com
Be careful out there!
Disclosure: I am long FXF.
Additional disclosure: I am also short EUR/USD, long EUR/CHF, long AUD/CHF, short USD/CHF, long EUR/GBP, short EUR/JPY