Euro Unimpressed with Cypriot Bailout - Cause for Concern

DailyFX

ASIA/EUROPE FOREX NEWS WRAP

German Chancellor Angela Merkel described herself as “very happy” with the terms of the Cypriot bailout, and understandably so: the German electorate, ahead of the September election, will be pleased that Chancellor Merkel held firm despite blustering from Cyprus this week, with €10 billion being contributed from the core, and the rest coming from Cyprus herself. I am not as enthused.

While the finer points of the deal are still hazy, there are some dramatic details that now raise into question the proceedings of the future bailouts of Italy and Spain. There will be massive deposit levies on holdings at the two largest Cypriot banks, the Bank of Cyprus and Laiki Bank, with haircuts of 30-40% at minimum on deposits, while both junior and senior bondholders will have to take haircuts as well.

The decision to tax savers is important because of how the European sovereign debt crisis has flowed: each policy undertaken has set precedence for the next bailout; if Cypriot savers had to contribute to the bailout of its banks, then why wouldn’t the same measures be forced upon Italian and Spanish savers? The Troika will be forced to give the same terms at minimum in order to prevent alienating Cyprus – the Euro is about unity, anything short would paint Cyprus as a second-class citizen.

Concerns of a bank run are warranted in my opinion, and the spillover to sentiment in other European countries is inevitable. Take a look at Bankia today, one of the Spanish banks that was recapitalized last June: the stock fell by over -50% after news of the Cypriot bailout hit the wires! Investors in weak financial institutions in peripheral Euro-zone countries are on high alert – so should Euro traders. As we saw in June 2012, the bailout of Spain’s banks only produced three days of upside in the Euro – I would be shocked if serenity persisted past Wednesday.

Taking a look at European credit, peripheral yields are mixed despite the resolution to the Cypriot bailout. The Italian 2-year note yield has increased to 1.754% (+2.3-bps) while the Spanish 2-year note yield has decreased to 2.261% (-1.1-bps). Similarly, the Italian 10-year note yield has decreased to 4.442% (-6.1-bps) while the Spanish 10-year note yield has decreased to 4.784% (-4.6-bps); lower yields imply higher prices.

RELATIVE PERFORMANCE (versus USD): 10:20 GMT

CAD: +0.36%

AUD: +0.30%

EUR: +0.17%

CHF:+0.15%

NZD:+0.06%

GBP:-0.14%

JPY:-0.23%

Dow Jones FXCM Dollar Index (Ticker: USDOLLAR): -0.09% (-0.65% past 5-days)

ECONOMIC CALENDAR

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See the DailyFX Economic Calendar for a full list, timetable, and consensus forecasts for upcoming economic indicators.

TECHNICAL ANALYSIS OUTLOOK

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EURUSD: The headlines of Cyprus’ bailout pushed the EURUSD through the descending TL off of the February 1 and March 15 highs, at 1.2990/300, to its 21-EMA at 1.3042, before failure ensued today. As I do not find the bailout terms favorable to long-lasting Euro strength, the “top” after the bailout could now be in place. As long as price holds below 1.3085 this week – the trendline off of the highs from late-February/early-March – price action could be consolidating for another drive lower towards 1.2660.

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USDJPY: No change: “The USDJPY continues to range in an ascending channel, as it has been since the start of the year, with another test of the 21-EMA occurring today. However, with recent swing lows at 93.00 coinciding with the bottom rail of the ascending channel, a further drop – coinciding with a pullback in US equities or a rally in precious metals – looks to be bought, as the divergence between Fed and BoJ policies continues to grow. A weekly close above 96.00 eyes 97.00, 97.70, and 98.50/80 to the upside. Below 93.00, critical support doesn’t appear until 90.00/50.”

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GBPUSD: No change, though the Bull Flag first noted on Thursday appears to be materializing: “The Bullish Falling Wedge pattern noted last week has thus far played out, but now a Bull Flag may be forming on the daily chart, with the 100% swing extensions coming in at 1.5285, just short of the key 1.5300 former range support from 2010 through early-2013. I maintain that “reselling this area for new lows makes sense, it being major support over the past several years – the range dating back to August 2010, from 1.5300 to 1.6300.”” Resistance comes in at 1.5285/375. Support comes in at 1.5160/70 (21-EMA), 1.5115/20 (8-EMA), and 1.4830/40.

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AUDUSD:No change: “Throughout mid-March I’ve said that “a break of 1.0340/80 points to 1.0460/80. An alternative bullish view of an Inverse Head & Shoulders may have formed on the 4H chart…it is worth noting that a bullish 8-/21-EMA crossover is in place on the daily chart, so the March low at 1.0110 may have been set.” Now that 1.0340/80 has been cleared, and a Bullish Symmetrical triangle on the 4H/daily time frames yielded a positive result, I will look into 1.0460/80 and 1.0495/520 as potential resistance higher.”

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S&P 500: No change: “The near-term set back at 1530 took place for less than two weeks, but the break higher hasn’t been marked by high volume; no, it has been a volumeless rally, with the breakout occurring on volumes around 80% of the daily average in 2013. This is not a ‘technically strong move.’ The float higher could continue, towards the all-time high at 1576.1, but might be cut short in the 1565/70 zone, where two key Fibonacci extensions lay. I’m very skeptical up here – markets seem to be ignoring Italy and the derisive politics in the United States at the moment (this also happened in 2011 and 2012 at the beginning of those years).”

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GOLD: No change: “Gold broke below trendline support off of the January 2011 and May 2012 lows at 1650 last week, prompting a sharp sell-off into 1600, where price broke out in mid-August before a rally into the post-QE3 high at 1785/1805. However, with oversold conditions persisting on the 4H and daily timeframes, a rebound should not be ruled out; each of the past two daily RSI oversold readings has produced a rally in short order. Resistance is 1625 and 1645/50. Support is 1585 and 1555/60. It should be noted that Gold has entered a major support zone from the past 18-months from 1520 to 1575.”

--- Written by Christopher Vecchio, Currency Analyst

To contact Christopher Vecchio, e-mail cvecchio@dailyfx.com

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