ECB Signals Hawkish Tone but Concerns Still Remain

The Euro is trading slightly lower after abreakout over the last swing top at 1.3434 failed to attract fresh buyers.

The Euro is trading slightly lowerafter a breakout over the last swing top at 1.3434 failed to attract freshbuyers. Although the move through this level turned the main trend to up on thedaily chart, the lack of momentum indicates the market may pull-back, allowingbullish traders to regroup, before moving higher.

The strong rally on Thursday mayalso be playing a big part in this morning’s weakness. Yesterday, the Eurotraded at 1.3358 from a session low at 1.3129. This move may have caughtshort-term traders by surprise, leading to near-term overbought conditions.

The reason for Thursday’s rally wascredited to European Central Bank President Jean-Claude Trichet. Although theECB kept interest rates unchanged, Trichet provided his first hawkish commentin months when he implied that policy makers stood ready to act to counter arecent rise in inflation. Trichet signaled this shift in policy because of therecent increase in consumer inflation.

Trichet said that while inflationaryexpectations remain “firmly anchored”, the central bank remains “permanentlyalert” to the need for price stability. This statement basically toed thecompany line, but it represented a more hawkish tone than his recent commentary.

Dropping its dovish outlook forinflation may have given the Euro a short-term boost, but traders remainedskeptical that its rise represents a major change in trend since the Euro Zonestill faces an uneven recovery. Of primary concern for Euro bulls are the needto balance the budget deficits, austerity measures that could shunt economicactivity and the continual risk of contagion.

The Euro also received a boost fromwell-received debt auctions in Italyand Spain.This news followed Portugal’ssale of government debt on Wednesday. Although these events went smoothly, theymay have only a short-term bullish effect on the Euro. The key to long-termsuccess will be the Euro Zone’s ability to find a solution to the Euro Zone’sdebt problems.

Based on current trading conditions,it looks as if the Euro is likely to remain firm. Short-traders are likely tocontinue to pare their positions as they react to the possible shift in theECB’s policy, however, they are not likely to give up their core short positionas long as contagion worries continue to dominate the Euro Zone region.

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