Underlying Euro Weakness Evident on Crosses

The euro has once again been turned back from the upper end of its 4-5 week trading range against the dollar. The euro has been unable to make much head way despite a couple of favorable developments, including a relaxation of anxiety over Greece and the weaker credits in Europe, economic data that suggests a recovery is taking hold, and that the Federal Reserve appears in no special hurry to raise interest rates--maintaining its signaling device of "extended period."

While the euro has gone essentially nowhere against the dollar, it has weakened on the crosses. It is making new lows (of different durations) against the Swiss franc, Norwegian krone and Hungarian forint today. The Czech koruna, Polish zloty and Swedish krona don't seem far behind. And this is just a quick survey of the European crosses.

Of these Norway is the only one that could raise rates in the near-term. The central bank meets on March 24th and expectations are roughly split. In a close call, we lean toward standing pat because of the recent string of economic data, which seemed on the soft side and the strength of the krone. We continue to like long Norway/short Sweden speculative plays. Even if Norges Bank does not hike rates in March, we suspect it is likely to raise rates again before the Sweden's Riksbank.

Still, the relatively heavy tone of the euro is perfectly consistent with Greece muddling through this year. Part of the macro-economic re-balancing that may be underway, is that the euro, which is still rich on numerous valuation models, needs to decline. That decline in turn will also help, at least on the margins, help make Greece more competitive.

Ironically currency union means that Greece (and others, of course) can not devalue against Germany, that way it used to, but can devalue against the dollar, and Germany goes for the ride. In such a scenario, what will ultimately be at stake is how the competitive gains are distributed between Germany and the rest. Germany insistence on exporting 40% of GDP--roughly the same proportion as China--appears to be a growing source of tension within Europe.

More immediately, maybe the euro is carving out a slightly higher trading range against the dollar. If it was previously $1.3500-$1.3700, maybe now it is $1.3600-$1.3800. Many participants appear to have concluded that the weakness of the euro is a theme that has legs, but the dollar may not be always the best way to express that view. However, when the euro begins to trend again against the dollar, it may fare a bit better on many of the crosses.