Euro Rises as Bond Purchases Continue; Is Spain Set to Tap the EFSF?

DailyFX   |  November 18 2011 9:40 EST

Higher yielding currencies and risk-correlated assets, such as the Australian Dollar and Euro, pushed higher as the European Central Bank continued to depress Italian and Spanish bond yields.

Fundamental Headlines

• Euro Rescue Plan Falling Short Renews Franco-German Spat over Role of ECB – Bloomberg

• Supercommittee Stall Seen as Weapon on Taxes – Bloomberg

• European Bank Chief Urges Action on Rescue Fund – Reuters

• U.S.-China Tension Spills over into Asia Summit – Reuters

• Crisis Ensnares Central Bank in Desperate Bid to Save Euro – WSJ

European Session Summary

The beginning part of the week featured a major sell-off and capital flight to the safe haven currencies, the Japanese Yen and the U.S. Dollar, as liquidity conditions tightened across global markets. Short-term funding concerns are becoming increasingly prevalent in the Euro-zone, driving investors out of higher yielding currencies and into more liquid, secure assets. Although these concerns remain elevated, at least on a technical basis, markets were due for a correction headed into Friday trade as the U.S. Dollar was overbought across the major currencies.

As such, as trading volume thinned out into North American trade, commentary out of the Euro-zone coupled with Italian Prime Minister Mario Monti winning a vote of confidence helped accelerate gains before the opening bell in New York. German Chancellor Angela Merkel noted that “a number of technical details” remain to be resolved to add more firepower to the Euro-zone’s bailout fund. Likewise, she noted that the process to rebuilding confidence was slow, and that leaders “have to actually put the things you have decided into force.”

EUR/USD 5-minute Chart: November 18, 2011

Charts created using Strategy Trader– Prepared by Christopher Vecchio

While this was a nice touch to re-instill confidence in the near-term, the most important commentary in the overnight did not directly come from Merkel. Volker Kauder, chairman of Merkel’s Christian Democrat party, said that Spain should tap the Euro-zone’s bailout fund for any further help rather than ask the European Central Bank.

As markets priced in the probability that Spain would seek further assistance, the Euro found support across the board, outperforming all of the major currencies, save the Swiss Franc, in the overnight session. At the time this report was written, the EUR/USD was approximately 0.65 percent higher; the U.S. Dollar was the worst performing major currency on the day.

It should be noted that the ‘risk-on’ environment, already beneficial for the Euro-zone periphery nations’ bond yields, was accompanied by further bond purchases by the European Central Bank. Thus, even as safer credit instruments, such as the U.K. 10-year Gilt and the German 10-year Bund, pulled back, the market intervention helped accelerate progress the Italian 10-year bond posted, driving the yield back down to 6.680 percent, at the time this report was written. It remains to be seen how effective these interventions can be, as European Central Bank President Mario Draghi has noted that they are “temporary by nature.”

24-Hour Price Action

Key Levels: 12:45 GMT

Thus far, on Friday, the Dow Jones FXCM Dollar Index is lower, trading at 9827.02, at the time this report was written, after opening at 9874.19. The index has traded mostly lower, with the high at 9880.79 and the low at 9789.62.

--- Written by Christopher Vecchio, Currency Analyst

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