Euro Looks to Break from Range as it Catches up with Risk Trends

http://www.dailyfx.com/forex/fundamental/article/drivers_of_price_action/2010/12/31/Euro_Looks_to_Break_from_Range_as_it_Catches_up_with_Risk_Trends_.html

Euro Looks to Break from Range as it Catches up with Risk Trends

EUR/USD

The Euro is ending the year on a high note with the EUR/USD looking to close higher for the sixth time in the last seven trading days. We may be seeing the p[air catching up with prevailing risk appetite as the debt crisis fades into the background. The pair had lost sight of stocks with its correlation falling to 55% from 63% a month ago. Estonia adopting the single currency at the start of 2011 gives the region something to cheer about but the first debt offerings of the beleaguered members could set the tone for the first half of the year. Successful issues and signs for continued German growth could put the ECB on alert and lead to yield expectations having a greater role in the Euro’s direction. We have started to see the potential course of interest rates grow in importance with it explaining 28% of direction a week ago. Nevertheless, risk trends should remain the main driver of price action with more potential near-term upside for the pair.

Driver of Price Action	Current Influence	Correlation	Week Ago	Month Ago
EUR Interest Rate Expectations	Low	0.20	0.28	0.13
USD Interest Rate Expectations	Low	-0.13	-0.11	-0.17
Risk (Dow)	High	0.55	0.61	0.63

ECB Interest Rate Expectations

China taking steps to slow their domestic economy has helped dampen European interest rate expectations as German growth has been founded on Asian demand. If the region’s largest economy begins to slow it could spell trouble as other members begin to ramp up their austerity measures. A rising yield outlook was supportive last week, so we must caution against possible weakness if it continues to dim. Chinese manufacturing and U.S. employment data may have a great impact on forecasts than domestic fundamentals based on their impact on the global economy. However, trader should monitor German employment data as the potential for rising wages is a significant threat to price stability. Discuss this and trading ideas join the EUR/USD forum.

Credit Suisse (OIS) ECB

Source Bloomberg – Prepared by John Rivera

FOMC Interest Rate Expectations

Fed funds futures continue to show very little chance of a Fed rate hike in the first half of 2011 which should help maintain the greenback’s appeal as a funding currency and hold its negative correlation with risk. However, monitoring the various monthly odds provides insights into market sentiment and possible dollar direction. Therefore, the decrease in the chance for tightening in June according to Fed funds futures from12.7% to 7.0% in the past week, despite recent upside surprises in manufacturing, housing and employment should be a concern for dollar bulls. Next week’s Non-farm payroll report could potentially shift the outlook for yields with economists expecting job growth near 135K.

Source Bloomberg – Prepared by John Rivera

Risk

Stocks are ending the year on a flat note as most traders have closed their books for the year. Today’s weakness is potentially bringing an end to the recent rally as we see price action fall below the lower bound of the Dow’s prevailing tight channel. Downside risks are to 11,300 which could put the EUR/USD on its back foot to start the New Year. However, a continuation of bullish momentum could see the pair break from its current range. Discuss this and other fundamental data in the Economics Forum.

Dow (5 Mins)

Source Bloomberg – Prepared by John Rivera

To discuss this report or be added to the email list contact John Rivera, Currency Analyst: jrivera@fxcm.com

DailyFX provides forex news on the economic reports and political events that influence the currency market.
Learn currency trading with a free practice account and charts from FXCM.