Ralph Shell @ 1:33 PM, Tuesday January 11 2011
Markets often look to the future for problems or opportunities, and by the time the event becomes a lead story in the financial papers, it no longer moves the markets. Perhaps this is what happened with last week's euro sell-off. Traders were concerned about this week's pending bond auction in Portugal, Italy and Spain as rates crept higher. Then an angel appeared. Japan announced they were going to allocate some of their $1T currency reserve fund to purchase bonds in the European financial aid fund.
The Japanese Finance Minister Noda has decided that a global good neighbor should lend a helping hand to Europe in general, and Ireland in particular. Perhaps this positive PR will help Japan peddle more of their cars and lap tops to Europe, but there is more at work here. Currently the EURJPY is trading at around 1.08, down from the low 1.30's where it traded for most of 2009. Using high price yen to buy the cheap euro does not seem like a bad long term trade. Further rates on Japanese 5 year paper, .45%, and the 10 year note, 1.20% are pathetically low. Japan's good neighbor policy just might work out quite well.
The Japanese interest in the euro bonds may have had a calming influence on the debt markets. Portuguese 10 year bonds did come down a bit to 7.08%, Irish 10 year bonds came down 34 basis point to 8.81%. Auctions will be closely watch this week, and it is expected the the ECB, will be an active supporter, expanding their portfolio of dubious debt. Should the market be surprised by a positive reception for the newly offered debt, it is possible this can give us a rally. The rumored expansion of the European bail out fund would help.
Can we get a relief rally in the euro? Earlier we had been bearish on the euro with a target in the vicinity of 1.26. The sell off from the first of the year was swift, but it only took us to 1.2872 yesterday. Following that Monday low we had a reversal close to 1.30, and then failed. The last three day trade looks like a hook bottom, but we really need to stay above the 1.30 level to confirm the reversal.
It is interesting to note the futures trade remains active, and the open interest is increasing. Yesterday on the reversal day, the open interest in the futures was up 11,275 contracts to 194k contracts. This is up from around 162k at the beginning of 2011. Obviously there are new buyers and sellers emerging around the 1.30 handle. How do you trade this pair? Who are the new buyers coming aboard, and how deep are their pockets?
We know from the COT report that the short side of the euro has been popular with the specs. So far they are the winners, but where to they bank those profits? We need to watch the price action and relate this as best possible to the news. A market that fails to bearishly respond on negative news is usually one to buy. If the 1.2880/1.2900 levels holds, that might be a spot to try the long side.
Author: Ralph Shell - ForexRazor Analyst - Graduated from a small Ohio liberal arts college. Graduate studies in economics and history at Duke University. Ten years experience trading cash commodities in domestic and export markets. Former commodity analyst with Merrill Lynch in Chicago. Member of and floor trader at the Chicago Board of Trade for 18 years.