The Euro Takes A Dive

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

After chasing out euro shorts yesterday, running the EURUSD well above the recent recovery to a new high slightly above 1.32, the pair has reversed today. The euro's behavior had been baffling, considering the weak economy, the arrogant ending to the Cyprus crises, and the increasing European hostility to the austerity solution as proposed by Chancellor Merkel and her Finance Minister Wolfgang Schauble.

Despite increasing evidence the Troika's remedy, which had the blessings of the Germans, was harming the economies in many of the single currencies users, there was no deviation from the plan. Now, with some evidence the German economy is about to be harmed there may be some changes, at least in ECB Monetary policy, in the near future.

Last week Lorenzo Bini Smaghi, a former member of the executive committee of the ECB may have planted the seed when he offered his advise in his blog on the Financial Times:

"If the yen depreciates substantially against the euro, will that not seriously threaten economic growth in Germany, Japan's greatest competitor in the high-end manufacturing sector, possibly undermining the only part of the eurozone that still hopes to escape from the European recession? Under these circumstances, would it not be fair to assume that a long-awaited consensus in favour of a further rate cut would quickly emerge in Frankfurt? There might even be room for some more aggressive non-standard measures aimed at avoiding a deeper than expected recession.

As the ECB has repeatedly stated recently, while the exchange rate is not a target for monetary policy, it certainly affects growth and inflation. The euro exchange rate might seem to be in line with the historical average, but is certainly overvalued if measured in terms of relative cyclical conditions."

Today we received March European car sales, which confirmed the economy's contraction. Car sales in Germany were down 17.1%, and down 10.2% in all Europe. Sales of Volkswagen and BMW were down 9% and 4.7%, respectively. With the recent yen depreciation, has the prospect of a 20% lower price for new Lexus or Toyota alarmed German policy makers.

Last month, Bundesbank President Weidmann told Market Watch, "the relevant indicators do not signal any serious overvaluation, governments should stick to the established division of roles..." It has been said that the Bundesbank President is the man that controls ECB President's Draghi's handcuffs. Well, today zerohedge said:

"Bundesbank head Weidmann, reminding the world that in a monetarist currency war world, he who crushes their currency last, loses. As a result moments ago he said that the ECB may cut rates if new info warrants, something that was actually quite obvious two weeks ago and some 300 pips lower."

Turbulence continues in the many markets, but we wish to point out the German Stock Index DAX has made a new low for 2013 today. It seems like it is time for some QE in Europe, and perhaps a rate cut as well.

How quickly the EURUSD (FXE, UUP, UDN) has reversed to the downside. We would expect to see some support for the euro around the 1.30 handle, and again around last week's low of 1.2975. The market will be jittery. The euro politicians and bankers will be giving their speeches and the markets will listen. We expect that more will acknowledge a strong euro is harmful to their economies, and going forward, they may take actions to weaken their currency, thought they may call it a domestic stimulus. Accordingly, we wish to be a seller on rallies.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.