The intensification of the European debt crisis continues to overwhelm all other considerations in the global capital markets. The corrective bounce we anticipated on May 17 largely fell shy of the technical objectives as the European officials appeared to continue to drift toward a Greek exit. In addition, the flash PMI readings from the euro zone and the German IFO warned that the regional economy cannot count on German locomotive here in the second quarter.

Regardless of the particular policy response by officials, stronger growth in the core (fueled by domestic demand) and a weaker euro would provide a more conducive environment for addressing the crisis. Although the wishes of officials do not drive currency prices, weakness of the euro should be understood as both the symptom of the crisis and also an attempt to cure, like a fever in person.

We remain concerned that market positioning and sentiment are

NOTE: after this post, S&P announced it was cutting the ratings of 5 Spanish banks--and affirmed the ratings on nine others, keeping a negative outlook on five. A couple (Banco Popular and Bankia) are below investment grade.

News that Spain's Catalonia region is seeking support from Madrid provided the headline trigger to the euro's slide and risk-off in North America after a quiet European morning. The euro slipped through the $1.25 level, triggering some stops and optionality only to bounce quickly back, which seems to be frequently the case after barriers are triggered.

The news is a useful reminder of one of our larger points. The flash points in Europe are extend well beyond Greece, which has captured everyone's imagination. Spain problems may be partly exacerbated by the tensions over Greece, but rest assured they are primarily home grown. It also follows that ejecting Greece will not solve Europe's troubles

Today the euro made a 21-month low and traders/investors are curious as to how to position themselves, and what their competitors are doing. However, large institutions dominate foreign exchange (FX) trading, and the traders there get to see the flow of orders coming in and can take notice of which way clients are leaning. Are the weak hands buying? Is the smart money selling out? Since this market is primarily traded over the counter most of this information is available to only a privileged few.

But, there is still a small sliver of the financial markets where a snapshot of how various players are positioned is revealed. The information is released each Friday by the CFTC in its "Commitment of Traders" (COT) report. The data represents positions as of the previous Tuesday. The publicly traded FX futures market is much smaller than the over the counter FX market but information

When is the last time the markets have heard anything bullish about the euro? The perils of the single currency, the sovereign debt crises, the underfunded European banks, the lack of a lender of last resort, and repeated stories Greece is about to leave the euro, are all repeated and embellished by the bears.

We, too, have been have been euro bears for a lengthy period, but have we gotten to the point where the bulls have capitulated, and the bears have doubled down on their positions? Granted currency markets are usually trending markets. and often they last a long time. Despite the perils of picking a reversal, we think there are some reasons for the bears to be cautious.

To begin, the bear side of the market has become very popular. The latest COT Report showed in the futures and delta adjusted option positions, the speculative bears had increased

By Dean Popplewell

This last five cent EUR loss feels like an eternity. However, the market is beginning to feel that they have the single unit finally on one knee, one more and a tap out is all the bears require to justify these agonizing short positions. Euro policy makers, despite their differences, will be vocal to the end, if there happens to be one. This morning’s economic calendar is only a sea of red, indicating that German manufacturing and eurozone (EZ) services have done little to lighten the dark mood that is suffocating Europe this month, as the crisis in the region continues to take its toll.

To many observers, the EZ debt crisis is in its most dangerous phase, with price action across different asset classes indicating the growing realization that Greece’s exit from the monetary union could be imminent. The mention of contingency plans by finance ministers

The current financial crisis may progress to a phase where people demand and hoard dollar bills but take electronic deposit credits only at a discount which increases until electronic deposit credits are repudiated entirely. The Federal Reserve would be powerless to solve the problem, because while they can create unlimited electronic deposit credits they can’t create unlimited paper dollar bills, “money you can fold” as Professor Antal Fekete calls it. There would be a glut of electronic deposits, but a shortage of dollar bills.

Before the financial crisis metastasized in 2008, Fekete wrote a paper that I think is underappreciated and under-discussed. “Can We Have Inflation and Deflation at the Same Time?” In his paper, he discussed the “tectonic rift” between paper Federal Reserve Notes (i.e. dollar bills) and electronic deposits. By statute, the Federal Reserve cannot print dollar bills without collateral (e.g. Treasury bonds). Also, they have limited printing

There's more evidence of the German locomotive dragged down by the rest of the European continent, as German manufacturing PMI dips to 45.0, its lowest figure since May 2009. The French version of manufacturing PMI hit 44, also a 36-month low. EUR-USD hits a fresh low on the year at $1.25, down 3.3% year-to-date, and down 7.0% from its February highs. Our warning that the PMIs were a more effective leading indicator than the IFO or ZEW was first made in March, stating the reasons in more detail.

As long as the major central banks refrain from any new liquidity action in the form of FX swaps (as of Dec 2nd) and the IMF remains silent before the Greece June 17 elections, the path of least resistance for traders is to continue selling the euro rallies and eventually targeting the 2010 lows under $1.18.

Euro's Cyclical Path

We first charted

The euro came off in a knee-jerk fashion following the conclusion of the EU Summit dinner. The press statements indicate that nothing concrete came of it, but it did raise the stakes for the end of June formal summit. Since midday in the US on Wednesday, the euro has been in a clear $1.2550-$1.2600 range. The euro went from the top end of the range to the bottom after the European officials spoke and then quickly rebounded again. A move above $1.2600 gives $1.2650, but the $1.2700 area is the important hurdle which needs to be surmounted to begin stabilizing the technical tone.

There does seem to be a consensus emerging for a larger more active European Investment Bank and project bonds. Details have to be worked out. There also is a consensus for making it easier for countries to access cohesion funds. The ECB clearly came under stronger pressure

The pound continues to flunk the test of a safe haven currency. Both the yen and the U.S. dollar have been soundly beating out the currency for the entire month of May - for example, CurrencyShares British Pound Sterling Trust (FXB). Those beatings have accelerated along with the worsening crisis in the eurozone.

The chart below shows multiple breakdowns against the U.S. dollar (GBP/USD). The former uptrend broke just as the currency pair broke below the 50-day moving average (DMA). This week, GBP/USD broke decisively below the 200DMA.

The weakening of the

The currency markets are still at the mercy of bad news. The majors sold off in unison during the European session following a Fitch outlook downgrade for Japan, and any headline with "Greece" in it just accelerates the bear cause. AUDUSD tried to perk up in the U.S. Session despite another poor U.S. manufacturing number, but could not hold gains above 99.00, and slid all the way back to 98.00 in the U.S. Tuesday afternoon session just after news that an 18-billion euro recapitalization deal for Greek banks will have to wait for Wednesday. It was a fascinating couple of days in the market where Monday was a slow news day with prices working steadily higher and Tuesday was the opposite with every bit of news from the London open on pressuring prices lower. From a technical perspective AUDUSD remains in an interesting place on the chart with the secondary

Below I look at six devaluations. They are the devaluations that occurred in Argentina in 2002, Great Britain in 1992, Sweden in 1992, Brazil in 1999, Russia in 1998, and Indonesia in 1997. I do not go into the detail surrounding each devaluation. These are all well documented and extensively discussed in places like Wikipedia. My interest in looking at this is to see if there any commonalities in the timing and magnitude of the moves amongst the currency rate, the nominal local stock market, and the local stock market as denominated in U.S. dollars. In many cases, the U.S. dollar denominated stock market rose many hundreds of percent post the devaluation. This may offer a proxy for investing in Greece (or any other country) should it ultimately leave the euro and turn to an alternate currency.

1) Argentina

The graph below depicts the Merval Index in Argentina in both

By Dean Popplewell

The former Greek Prime Minister’s latest remarks have the EUR bears chasing their selling orders, dragging them down from above 1.28 to place them into the wilds of the 1.27 highs. It seems that for the potential EUR bull candidate, the application of risk is both a fleeting and daunting undertaking. Just when you are about to buy into that specific trading reward strategy, an ill-timed exit statement by an ex-Hellenic leader, has the EUR bears sitting more comfortably ahead of today’s all-day EU Economic Summit. Greece has no choice but to stick with a painful austerity program dictated by its lenders or face an exit from the eurozone that would destitute the economy, send inflation soaring and generate new social ills. The everlasting reaction has managed to push the EUR to new two-year lows this morning.

It is worth remembering that many other high-yielding currencies fared

The U.S. dollar is broadly higher in Asia and Europe. Comments by Greece

World leaders assembled over the weekend at the 2012 G8 Summit to discuss the crippled state of the European economy. Over the last week, global markets have been in complete turmoil over Spain's banking problems and the worsening debt crisis in Greece, which renewed fears over the country's ability to remain on the Euro.

G8 Leaders have expressed their desire that Greece remain within the eurozone in light of the country's economic and political unrest, but have strongly urged that Greek leaders adhere to the agreed upon bailout measures. Restoring the eurozone will require cohesiveness amongst the Euro nations, but if Greece chooses not to play by the rules then it will be almost impossible for Europe to weather this economic storm -- the first domino would be tipped.

The event created a sense of optimism in the markets causing the EUR to gain strength against the USD, bouncing back

On Friday 18th May, a new record was set. Non-commercial (i.e. people like you and me) FX traders are now sitting on more EUR/USD short positions than at any other time in history.

In the past 2 weeks, an additional 70,000 standard lot contracts have been added to the short tally taking the total open short interest on EUR/USD to a staggering 173,000 contracts.

The good news is that most of these short positions have paid off. The EUR/USD pair has gradually and consistently fallen from 1.3300 down to 1.2650 over the last few weeks.

The bad news is that people who have planned on the EUR/USD progressing linearly downwards to 1.0000 may be in for a substantial wait.

(click to enlarge)

Why The Wait?

Let's play a game. You choose the European country, financial institution, GAA (generally accepted acronym) (examples you could choose: PSI, EFSF, ESM, LTRO, TARGET2) or

By Dean Popplewell

After a three-week and $3t financial market sell-off, measures of risk show the global investor are assuming a return to stability, and with it a level of confidence that some believe could “be horribly misplaced.” Asset classes from commodities to equities are moving in tandem to a degree not seen in nearly two-years, while risk aversion currencies such as yen and defensive stocks like utilities, which have usually joined the rout, seem absent this time. Market measures of volatility remain low. This combination of low volatility and coordinated moves among risky assets could be deemed rather threatening or inauspicious. The collapse that has spread fear across all asset classes and in all regions on the premise that the EUR will eventually break up, may have more room to run. Is the market miss-pricing risk? Should the temporary market relief be seen as an opportunity to add or

A few months ago I wrote a popular article called "The Path to EURUSD 1.1000". The premise: A new consensus was forming for the euro, where nearly every possible scenario leads to a lower EURUSD and FXE.

This consensus is widespread today. It's widely recognized there must be drastic steps to save the Euro from total destruction. It's also recognized any possible eurozone scenario means a lower EURUSD.

The scenarios fall into two broad categories, breakup and continuation. I will use the new GIPSI acronym to refer to the problem countries of Greece, Ireland, Portugal, Spain, and Italy.

In any continuation scenario, the EURUSD is lower.

• Debt write downs for GIPSI
• More loans for the GIPSI countries
• Continued ECB purchased of GIPSI debt
• Continued austerity for GIPSI countries

Every single one of these scenarios causes a weaker EURUSD. There is no scenario where the eurozone retains all of the members

With the world's worst fears dominated by events unfolding in the Eurozone, and with the euro's continued existence a key question, I offer some charts which perhaps provide some useful perspective. Despite all the fears of cataclysmic outcomes, the euro has actually strengthened vis a vis the dollar since its 1999 inception, and the euro today is trading about 10% above its purchasing power parity relative to the dollar by my calculations. This suggests that the ECB has been doing a pretty good job of defending the euro—better even than the Fed.

The euro today is slightly higher against the dollar than it was at its inception. It's been a long roller-coaster ride, but I see nothing here that would point to an imminent collapse. What seems more likely is a further gradual decline of the euro vs. the dollar.

The euro (using the DM as a proxy going back

The week begins off with a consolidative tone. It was the alignment of technical and fundamental factors following the election results earlier this month that allowed for the strong trend moves in the foreign exchange market. Arguably the most important consideration is that the divergence between the two has emerged. While a resolution of the European crisis is not imminent, the combination of extended positioning, the price action before the weekend, and official attempts to talk the market away from the edge of the abyss, warns the short-term momentum and trend following participants may be further squeezed, creating a new opportunity to medium term investors.

Since the middle of last week, we have warned of heightened risk of a technical correction. We see the euro having scope toward $1.2850-$1.2900. This gives sterling space toward $1.5880-$1.5930. Provided the JPY79 are holds, the dollar can recover toward JPY80.00-JPY80.50. The initial pullback against

The G8 Summit achieved very little in public which was no real surprise, but there was also an apparent lack of urgency surrounding the euro-zone situation which was a much greater surprise given a sharp deterioration in the financial sector last week. Where was the urgency for fresh action to help support the euro banking sector? The absence must surely indicate that euro-zone and G8 leaders, while paying lip-service to the current strategy, have effectively moved on and are actively planning the next stage of the crisis.

Fear is likely to dominate in the short term and this is likely to keep strong defensive demand for the dollar and yen. In these circumstances, there is no real chance of a sustained euro rally with 2012 lows likely to be seen. Bond markets will be watched very closely and any further decline in yields for Germany and the US would indicate