Guarding against over-aggressive short position remains essential given the positioning bias, but the euro is set to weaken further. The Euro-zone political and economic paralysis has caused major damage to the economy, triggered extensive capital outflows and severely damaged international sentiment towards the European economy. The only possible escape route will be for a much more aggressive ECB policy which will put underlying downward pressure on the euro. The Federal Reserve has signalled its intention to hold policy steady for now while global monetary pressures and central bank reserve allocation will put underlying upward pressure on the dollar.
The pattern will be a familiar one over the following week with angst ridden markets again holding on every word from a European Summit as tensions increase during the week. EU leaders will meet on Thursday and Friday with yet another meeting described as the last chance for the Euro-zone following meetings in May, March and January this year as well as six meetings in 2011.
In a summit-lite meeting on Friday between Germany, France Italy and Spain, there was further friction over the issue of Eurobonds with Chancellor Merkel resolutely sticking to her insistence that they could not be on the agenda at this time. The German leaders will continue to point to constitutional barriers to any measures which collectivize debt.
Inevitably, there is set to be a mood of Germany versus the rest at the Summit with markets and media seeing this as the crucial battleground during the two-day meeting. French President Hollande will certainly be instrumental in pushing for some form of Eurobonds, although the evidence so far is that he will not over-play his hand. Compromise measures will provide only limited euro relief at best.
Italy and Spain, however, will eventually be critical to the euro's future. There will be increasing protests within Spain surrounding unemployment and austerity measures. Political tensions within Italy are also intensifying, especially with technocrat Prime Minister Monti struggling to achieve any progress in key reform measures. Internal battles within Spain and Italy is where the overall euro future will be decided.
In an inauspicious start to Greece's new government, both the Prime Minister and Finance Minister are hospitalised which will delay the troika's visit to Greece and put on hold the next loan tranche as Greece's battles to avoid running out of cash. The outlook for Greece remains bleak and it will eventually bow out of the euro.
The latest Euro-zone money supply data will be watched closely and a weak set of data would reinforce economic pressures for the ECB to cut interest rates at the July meeting. Tensions between the ECB and Bundesbank will be a critical focus ahead of the policy meeting.
As far as the US data is concerned, the latest US consumer confidence data will be watched closely on Tuesday, especially as there was a decline in the University of Michigan confidence data. The latest durable goods orders data could have a more important underlying influence on Wednesday, especially as investment trends are vital. With consumer spending vulnerable and exports struggling to make any significant headway, capital spending trends will be vital if the US economy is to regain any momentum. There is corporate cash available, but there is still a reluctance to invest and another disappointing durable goods reading would reinforce a mood of concern surrounding the US outlook.
Free of Euro-zone constraints, there is a strong probability that the Bank of England will launch another round of quantitative easing and the inflation report hearings on Tuesday are likely to reinforce these expectations. Following MPC member Weale's comments over the weekend, markets will also be on alert to see whether there are further calls for sterling to weaken in an attempt to boost demand. Friday's financial stability report will also have an important impact, especially with Governor King likely to warn over the tsunami effect on the UK banking sector if stresses intensify within the Euro-zone.
Emerging-market stresses will also need to be monitored very closely. The fortunes of the dollar have been closely tied to trends in key emerging-market currencies such as the Indian rupee and Brazilian real. While these currencies have remained under pressure, the US currency has benefitted from net reserve swings and if, for example, the rupee continues to weaken to record lows, overall dollar corrections weaker should be limited.