Why euro bulls may stay lucky

It’s all doom and gloom in Europe – again. The short-term buzz from the European Central Bank’s last two liquidity injections has faded. Spanish bond yields are flirting with the danger level of 6% for the first time this year, while analysts watch and wait nervously to see how the next big bond auctions will go. Rumours are even swirling once again that the euro is doomed – it’s a matter of ‘when’ not ‘if’ the single currency finally disintegrates.

So surely now’s the time to be a euro bear? Well, maybe not just yet.

As Marketwatch.com’s Mark Hulbert points out: “the European currency has outperformed the Dow Jones Industrial Average over the last three months. In US dollar terms the euro is ahead by 3.7% since mid January, while the Dow is up 3.5%”.

Now, it’s just possible that the biggest market in the world – currencies – has lost its head and read all the signs of the euro’s imminent demise wrongly. But it’s unlikely.

More probably, the market’s view for now is that the euro is simply too big to be allowed to fail, even if in the longer term it will, and probably should. Another round of LTRO funding has been all but ruled out, but that doesn’t mean Spain will be allowed to head into the abyss until all other avenues (including an intervention from the International Monetary Fund) have been explored.

Meanwhile, as forex.com notes, struggling European banks looking to boost their balance sheets continue to offload higher quality non-EU assets (in the US, China, Japan, the UK and emerging markets) and repatriate the capital back into the eurozone. That’s supportive for the single currency, at least in the short term. The same thing happened in the US in late 2008 and early 2009 as US banks scrambled to raise funds and helped to keep the US dollar strong.

Eurozone inflation also remains stubbornly high. And the latestnvestor confidence  reading from Germany – now at a two-year high – combined with unemployment at a two-year low, suggest that the German economy may avoid a recession. While all eyes are on struggling Spain, this better German data is all euro supportive.

It’s true that everyone expects the euro to fall steeply at any moment. And there’s every chance that well before 2012 is out, it will. But a brave contrarian investor has enough reasons to stay long EUR/USD for now, with a stop loss in place.

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