Euro Falls then Recovers after Spain Downgrade

The Euro tumbled to a new low for the year after Spain’sdebt was downgraded to AA. Traders initially sold off the Euro in a knee-jerkreaction, but selling pressure quickly dried up. Although the Euro reached anew low for the year, the selling pressure was not as intense as Tuesday’sreaction. This was because investors had already discounted the possibility ofthe downgrade.

The Euro tumbled to a new low for the year after Spain’sdebt was downgraded to AA. Traders initially sold off the Euro in a knee-jerkreaction, but selling pressure quickly dried up. Although the Euro reached anew low for the year, the selling pressure was not as intense as Tuesday’sreaction. This was because investors had already discounted the possibility ofthe downgrade.

After bottoming about mid-morning, trading stabilized in theEuro until the early afternoon when the Federal Reserve released its policystatement. The FOMC kept interest rates at historically low levels and left itssomewhat dovish statement intact. In other words, rates are to remain low for “anextended period”. Although the Fed sees improvements in the economy it stillfeels that unemployment is a problem as well as tight consumer credit. Furthermoreit thinks the housing market can be improved. Once again the Fed stated thatinflation is expected to be “subdued”. The Euro’s rally accelerated to theupside after the Fed’s statement was digested.

Wednesday’s trading action seemed to be indicating thattraders had faith that a resolution between Greece and the EU/IMF would bereached soon. This was probably the reason for the less aggressive trading onthe short-side. In fact, the way the market traded, it looks as ifbottom-pickers were stepping in. At the close, the Euro formed a closing pricereversal bottom which could lead to a 2 to 3 day rally and a retracement to 1.3403.

Bearish traders should remain cautious at current levels sothey don’t get caught in a massive short-covering rally. There are still plentyof shorts still in the game, but it isn’t going to take much to encourage theweaker shorts to cover fresh losing positions.

It looks as if traders are backing away from aggressivelyshorting the Euro as long as the EU/IMF is still working out the details of thebailout. If anything should happen during the negotiations and talks werecalled off, then look for the Euro to plunge. As long as the bailout dialogueis open, it appears as if traders have priced in the worse case scenario forthe time being.

Talk of a “fragile” economy and renewed concerns about the U.K. election ledto a hard sell-off in the GBP USD on Wednesday. Investors are also concerned thatthe problems in the Euro Zone may soon spread to the U.K. This is the main reason why tradersare worried about the May 6th election.

With the election too close to call at this point in time, tradersare worried that the outcome may result in a hung parliament. If this occurs thanit is possible that political uncertainties may result in a failure to achieve abalanced budget. This would cause more debt to be issued, leading to thepossibility that the U.K.credit rating will be lowered. With an explosive situation brewing in Europe,it would not take much for debt issue problems to escalate in the U.K.

The strong recovery in U.S. equity markets helped rallythe USD JPY. In addition, traders are worried that Japanese debt may be next inline to be downgraded. Like certain Euro Zone nations and the U.K., Japan has a huge debt problem onits hands which could lead to a downgrade. Not only are traders selling the Yenas a carry trade, but today it looked as if traders were pressuring the Yen inanticipation of a debt rating downgrade.

Renewed interest in higher yielding assets and lowerinterest rates in the U.S.helped drive the USD CAD lower. With the Bank of Canada already on recordstating that interest rates are going to move higher in June and the Fed sayingthat U.S. rates will remainlow for “an extended period”, the interest rate advantage has shifted to Canada. This isthe primary reason for the strength in the Canadian Dollar on Wednesday. Longer-termtraders should continue to press the USD CAD lower because of the strengtheningCanadian economy and the likelihood of a series of interest rate hikes over thenext several months.

Higher than expected inflation and soft Fed comments, helpedto drive the AUD USD higher. On Wednesday, the Australian Dollar advanced froma four-week low after a government report showed inflation almost doubledduring the last quarter. This triggered a short-covering rally on renewed talkthat the Reserve Bank of Australiawould raise interest rates at its May meeting.

After holding steady throughout the day, the Aussie surgedto a new high for the day after soft comments from the U.S. Federal Reserveindicated that interest rates would remain at historically low levels. With theFed holding rates steady and the RBA likely to raise rates, the interest ratedifferential remained in favor of the Aussies. This led to a strong rally afterthe release of the Fed’s FOMC statement.

The NZD USD traded mostly higher on Wednesday and closedbetter after the Fed’s FOMC statement indicated that interest rates wouldremain low for “an extended period”. With the Reserve Bank of New Zealandready to issue its policy statement tonight, traders bought the Kiwi in anticipationof a hawkish commentary. Although the RBNZ is on record stating that interestrate are to remain low until at least the middle of the year, some traders arespeculating that recent economic developments may be putting pressure on thecentral bank to hike interest rates sooner than expected.

James A. Hyerczyk has been actively involved in the futures markets since 1982. He has worked in various capacities within the futures industry from technical analyst to commodity trading advisor. Using W. D. Gann Theory as his core methodology, Mr. Hyerczyk incorporates combinations of pattern, price and time to develop his daily, weekly and monthly analysis. His firm, J.A.H. Research and Trading publishes The Forex Pattern Price Time Report... More

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