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Four Reasons Why The Euro Is Not Crashing

Tyler Durden's picture




 

Based on a swap-spread-based model, EURUSD should trade around 1.30, but based on GDP-weighted sovereign credit risk EURUSD should trade around 1.00; so who is right and what are the factors that supporting the Euro at higher levels than many would assume (given the rising probability of a Euro-zone #fail and the 0.82 lows from 2000). UBS addresses four key reasons for the apparent paradox based on the difference between ECB and Fed 'monetization', the EZ's balanced current account (independent of foreign capital flows), and the high-oil-price induced petro-dollar circulation diversifying into Euros (or out of USD). The final and most telling of factors though is bank deleveraging as European financial entities, who remain under pressure to shrink their balance sheets and re-build capital, have been selling foreign assets. They remain EUR dismalists with a year-end target of 1.15 but expect the slide to these levels to be cushioned (absent an imminent break-up) by banks' 'shrinkage'.

Based on a pure swap-spread model, it appears EURUSD is starting to price in liquiidty risk once again (as it did last year - green ovals)...

But the pressure remains on EURUSD via the massive rise in credit risk across the Union's members (with parity seemingly attractive)...

 

and so from UBS - EURO - Who's Buying?

Financial markets are starting to price in the risks that the Eurozone may split apart following this month's inconclusive elections in Greece. But the euro, while trading back to this year's lows against the dollar at 1.27-1.28, remains far above its lifetime lows of 0.82 recorded in 2000.

What explains this paradox?

First, the European Central Bank so far has not engaged in outright quantitative easing during the financial crisis. Moreover, while the Federal Reserve, the Bank of Japan and the Bank of England all have cut interest rates to between zero and 0.5%, the ECB's benchmark interest rate remains at 1.0%. In contrast, investors are concerned the Federal Reserve will engage in a third round of quantitative easing. Similarly, the Bank of Japan and the Bank of England have also been printing money and buying government bonds.

 

Second, the Eurozone as a whole runs a balanced current account. Thus it is not dependent on foreign capital inflows to support the value of the euro.

 

Third, high oil prices have increased the petro-dollars accumulated by central banks and sovereign wealth funds in the Middle East, North Africa, Commonwealth of Independent States and Norway. These official investors diversify a portion of their new foreign reserves into Eurozone markets.

 

And, last, Eurozone banks under pressure to shrink their balance sheets and rebuild capital have been selling foreign assets.

 

 

 

As Chart 1 shows the ratio of loans-to-deposits peaked in the Eurozone close to 125% in 2007 when the credit crunch began. Since then the ratio has declined to 115% but largely because of an increase in deposits. As Eurozone banks further reduce the size of their balance sheets, they are likely to cut loans now including those from abroad. That leads to repatriation flows supporting the euro.

How long can such deleveraging go on?

 


 

Chart 2 shows how the ratio of loans-to-deposit has fallen from its peak in Japan in 1992, the US in 2008 and the UK in 2007. For the last two decades Japanese banks have steadily reduced their loans-to-deposits ratio from 130% in the early 1990s to below 80% now.

 

American and British banks have also been deleveraging sharply over the last few years. But Eurozone banks have been much slower, suggesting they will spend many more years slimming down their balance sheets now. That should lead to more repatriation flows to the benefit of the euro.

Thus while the euro is set to keep sliding owing to the debt crisis in the Eurozone - our end year target is 1.15 against the dollar - in the absence of a break up of the single currency area, the euro's decline should be cushioned by the Eurozone's banks.

 

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Mon, 05/21/2012 - 13:26 | 2448107 kralizec
kralizec's picture

Good mileage out of a little Euro pride eh?!

Mon, 05/21/2012 - 13:43 | 2448172 malikai
malikai's picture

A little pressure for the squeeze. Also, they're probably dumping both foreign and domestic assets at this point. Particularly in Greece. They got to pay for those bank runs somehow.

Mon, 05/21/2012 - 21:30 | 2449435 Harlequin001
Harlequin001's picture

The euro isn't crashing because it is worthless paper, it has no value, so how can it possibly crash.

How can something have any translatable value to something else if it is worthless. Its fx rate is a perception, and it can be set at whatever the politicians can agree, and it can stay there forever even as all currency becomes worthless and prices of real goods rise. Other than scalping to make a leveraged profit (or loss) I can't see why people bother trading it, it's not like trading patterns have any real link or the subject being traded has any realistic basis to gauge, and therefore any real meaning. It's just a gamble, pure and simple on a figure set by others at their whim which has no link whatsoever to any 'real' market. Fx traders exist to be parted from their money.

Buy gold, at least you know what you're getting.

Mon, 05/21/2012 - 21:50 | 2449493 cocoablini
cocoablini's picture

Oddly enough, as the bank runs speed up across Europe and into France, I see the Euro getting stronger just like the dollar did in the 30s. Everyone is delevering, margining out, going to cash. Cash is hard to come by if everyone is dumping positions in even more worthless assets like derivatives and eurostocks.
The euro, unless the ECB can create a tsunami of liquidity- hard to do with no real central bank, should inflate in value as it deflates in liquidity. In a huge run to cash. Then, with government disorientation and excessive printing( new unified bonds coming soon) hyperinflation will set in with all the fighting and political trail wrecks. This ain't Japan. They are not gonna sit down and take this from the governments

Tue, 05/22/2012 - 04:36 | 2450112 Harlequin001
Harlequin001's picture

yes, we've seen this before haven't we?

but not in so many places concurrently...

Tue, 05/22/2012 - 06:06 | 2450166 cnhedge1
cnhedge1's picture

Are concerns over a Greek Euro exit overdone ?
http://www.cnhedge.com/thread-4852-1-1.html

Is the Euro area Credibly on Target?
http://www.cnhedge.com/thread-4838-1-1.html

Mon, 05/21/2012 - 13:30 | 2448120 Doubleguns
Doubleguns's picture

Not to mention the huge short position in the euro now. A small move up could cause a ridiculous short squeeze. That would be a great time to short after that move up.

Mon, 05/21/2012 - 13:29 | 2448124 tim73
tim73's picture

"Eurozone as a whole runs a balanced current account. Thus it is not dependent on foreign capital inflows to support the value of the euro"

Hey, you lazy Yank bitches...TRY TO DO EVEN THAT! When it was the last time there was no current account deficit in the US...it must have been back when Ray-Gun met Gorba.

Mon, 05/21/2012 - 13:40 | 2448154 Spitzer
Spitzer's picture

The US has 50 billion in forex reserves. That is just enough to cover ONE MONTHS trade deficit.

The US has $100 per person in forex reserves. Switzerland has $40,000 per person in forex reserves.

Dollar is the best fiat ? Yeeeeah right

Mon, 05/21/2012 - 15:44 | 2448594 LawsofPhysics
LawsofPhysics's picture

And Italy?, and Spain?, and France?  LMFAO!!!

Nothing like having the best house in the fucking projects.  "Winning"

Mon, 05/21/2012 - 14:09 | 2448256 Nussi34
Nussi34's picture

Take out Germany and it is deep deep red!

Mon, 05/21/2012 - 14:09 | 2448257 Nussi34
Nussi34's picture

Take out Germany and it is deep deep red!

Mon, 05/21/2012 - 22:05 | 2449520 dbomb12
dbomb12's picture

Right on Nussi, one thing left out of the equation is sovereignty. The countries in the EURO ZONE owe no allegiance to the 12 yellow stars on that flag and we already know Germany is not in compliance with paying everyone else debt. That would be like asking Texas to bail out the dumb asses in California then States rights come into play kinda like in 1861

Mon, 05/21/2012 - 15:00 | 2448435 Jack Napier
Jack Napier's picture

I'm in a boat made out of Jodi Foster.

Mon, 05/21/2012 - 15:31 | 2448546 LawsofPhysics
LawsofPhysics's picture

LOL, I will be impressed when the swap windows close.  Until then, not so much.

Mon, 05/21/2012 - 13:34 | 2448134 ptoemmes
ptoemmes's picture

Is a EURUSD green oval anything like a green shoot?

Mon, 05/21/2012 - 13:37 | 2448142 Negro Primero
Negro Primero's picture
...some British humor: "Euros Disintegrating In Sunlight"

 

Here are some excerpts:

Herman Van Rompuy: “I saw a case of banknotes turned into golden leaves. I saw a handful of coins turned into iridescent pebbles that made a sound like music as they fell to the floor. Could it be that the single currency we believed in for so long was just a dream? Just a wonderful, wonderful dream?”

German financier Hans Gruber: “I stared at my 20-Euro note as the colours and lines on it writhed around like a thing alive, never the same twice, until it turned into an old Reichsmark note bearing the face of Hitler. And – God help me – I was glad to see him.”

http://www.thedailymash.co.uk/news/international/euros-disintegrating-in...

Mon, 05/21/2012 - 13:41 | 2448144 Spitzer
Spitzer's picture

Told you fuckers (dollar bulls)

The Euro is KING

"Eurozone as a whole runs a balanced current account.

and the high-oil-price induced petro-dollar circulation diversifying into Euros ( out of USD)

More gold then the US


Its about time a main stream institution realized some of this

Mon, 05/21/2012 - 13:50 | 2448176 kito
kito's picture

europe is not the problem that the world faces.  the problem is the "full faith" in the worlds reserve currency...... once the piigs fall back to their own currency that is pegged to the euro (a trick that worked with the dollar many times in latin america), the world will find a euro that is not saddled with debt overhang like the almighty u.s. dollar is.......the euro will live on, having grown stronger by that which did not kill it. wish we could say the same for the u.s. dollar.........

Mon, 05/21/2012 - 22:13 | 2449533 dbomb12
dbomb12's picture

That new reserve will be called the Renminbi

http://goldnews.bullionvault.com/buying_gold_022320127

Mon, 05/21/2012 - 14:03 | 2448237 lookma
lookma's picture

Yes, the reason underlying all the listed reasons:

Gold, bitchez!

 

http://fofoa.blogspot.com/2011/07/euro-gold.html

Mon, 05/21/2012 - 15:27 | 2448534 Sudden Debt
Sudden Debt's picture

We might have the most gold but it's NOT like its IN EUROPE!

Mon, 05/21/2012 - 13:41 | 2448158 Rainman
Rainman's picture

Buck fifteen seems like a good guess. Now....what does that number do to buy/hold gold bugs....??

**crickets**

Mon, 05/21/2012 - 13:45 | 2448175 bobbydelgreco
bobbydelgreco's picture

it's ben it's ben with qe & interset rates (and some illegal stuff with foreign banks) he keeps the dollar devalued but he will fail in the end & then zhers see where gold goes and by the way ben is a felon

Mon, 05/21/2012 - 13:45 | 2448177 francis_sawyer
francis_sawyer's picture

The path to a ONE WORLD CURRENCY (wet dream of NWO), leads directly through 'test tube babies' (like the Euro, the 'soon to be' AMERO, & Asian consolidation)...

The NWO-ists will not let this dream go no matter what (or what sort of dismal failure it appears to be on the surface)...

Mon, 05/21/2012 - 14:32 | 2448338 Vince Clortho
Vince Clortho's picture

Correct.  If the EU survives the Central Bankers will try to expand on it.

If the EU crashes and burns, they will blame it on nationalism (rather than their demented-Keynesian-financial ponzi scheme that is the real culprit).

Mon, 05/21/2012 - 14:40 | 2448353 francis_sawyer
francis_sawyer's picture

The only real 'hitch' to the plan are places like Russia & Iran who simply want to say 'FUCK YOU' to that kind of system (& have the resources to do so)...

~~~

Got popcorn?

Mon, 05/21/2012 - 13:52 | 2448180 Stackers
Stackers's picture

Reason #5: Central Bank support in the 1.30 EURUSD area. If true market dynamics were involved the Euro would have been in the 1.teens last year.

Mon, 05/21/2012 - 13:55 | 2448213 adr
adr's picture

What about a story on how nothing is really crashing. Oil is trading up 1.25% because of future hope of increased demand. Not reality but HOPE OF FUTURE DEMAND!!!!

Natural Gas is trading based on the weather. If next week is going to be hotter, nat gas goes up, colder it goes down. A whole bunch of speculative traders went in long after nattie went below $2. THEY CAN'T LOSE MONEY, WON'T BE ALLOWED. They want natural gas to head beyond $5 again before cashing out. It will get there regardless of record surplus inventory and producers burning it off.

Supply and Demand has been replaced by the speculation of future supply and demand. The speculation is always that prices will always be higher, thus you buy now and pump the price up. That way when the price does go higher in the future, based on your speculation, you can cash out even more profit.

Remind me of the definition of insanity again.

Fri, 05/25/2012 - 02:57 | 2461487 Western
Western's picture

Who's "they" and how are they "cashing out" of the nat gas business? Seriously... I am confused.

Mon, 05/21/2012 - 14:02 | 2448235 slewie the pi-rat
slewie the pi-rat's picture

some "apparent paradox"s are easier than others

the last few words were: "...the euro's decline should be cushioned by the Eurozone's banks."

whoever wrote that needs to self-medicate a bit defferently imo, unless this was meant to be comic material, in which case it is great and why didn't you say so, tyler?  xlnt stuff! 

 

Mon, 05/21/2012 - 14:46 | 2448370 supermaxedout
supermaxedout's picture

First time I#m reading a realistic article regarding the Euro in Zerohedge.

The Euro is a stable currency no doubt as long as the people trust in it. And I do not see a reason why one should not have trust in the Euro.

The Greek tragedy is showing us, that things are handled different in the Eurozone compared to the "Printerzone" (US,UK, Japan).

In the "Printerzone" the Greek problem would be no problem at all. Ben would just make a key stroke on his computer and whoops, the money to save Greece would be already on the bank accounts where it is needed. Which means on the TBTF accounts at the end, because all the money sent to Greece is not meant for Greece , its just reducing the losses of the TBTF banks

Anybody with a half sane mind can therefore recognize that there is a huge quality difference between "Printerzone" currency the Dollar money and the Euro (former DM).

 

Mon, 05/21/2012 - 15:08 | 2448477 slewie the pi-rat
slewie the pi-rat's picture

dude!

the SNB (swissNat'lBanksterity) has been supporting the EUR since they (SNB) devalued last year to do so and they have printed just about enough swissFrancs to do the job, now, for something like the eighth fuking month

all these fiat bullshit schemes are not the same;  we know that;  but they are fungible  

the level of ignorance in the EU about what tf is ACTUALLY happening there vs.  what people "believe" is still second to america, japan, china, canada, india, and saudi arabia in many respects, while surpassing that of gBritain, israel, and iceland, and possibly ireland, but probably not...

Mon, 05/21/2012 - 19:56 | 2449228 Spitzer
Spitzer's picture

so Swiss pegging is equal to unsterilized QE 1 and 2 ? The ECB doesnt even have bonds and yet the Fed  is the biggest owner of treasury bonds.

Fri, 05/25/2012 - 03:01 | 2461492 Western
Western's picture

No he didn't say it's equal to unsterlized QE, you should reread the post or just fuck off entirely. It's unlike anything in the States, because a country outside the Eurozone is supporting the currency with a separate currency.

Mon, 05/21/2012 - 14:51 | 2448392 lotusblue
lotusblue's picture

Beyond reasons given above - I think biggest culprit of elevated Euro is the open FED window borrowing.Buying euros continually to keep euro banks solvent and/or credit flowing,with dollars is the ongoing reason for high euro.

Mon, 05/21/2012 - 14:53 | 2448401 Snakeeyes
Snakeeyes's picture

It is puzzling that Obama is asking the one powerhouse with positive account balances (germany) to start acting recklessly.

http://confoundedinterest.wordpress.com/2012/05/21/obama-wants-germany-to-stop-austerity-st-curse-of-being-fiscally-well-managed-and-act-reckless-like-the-u-s-and-greece/

 

Mon, 05/21/2012 - 15:57 | 2448626 slewie the pi-rat
slewie the pi-rat's picture

no, it isn't

they are fresh meat, not zombified with the decay functions of hypothecality over inflationary/deflationary CTRL+P ponzi-time

in short:  they have assets

soon, like us, they will not have as many assets b.c of the "commonGood" or the greatestGood4daBoyz

so, they better watch out, b/c they are totally fuked, no matter what, and as was written long ago, germany shoulda been free of this nonsense by now if they wanted to cut their losses

now, they are squidFood, collectively, and undividually, if they are zeroHeads, they may be starting to understand why...

why, slewie? 

to protect themselves and their families, as individuals, against theCollective, comrade BiCheZ!

Mon, 05/21/2012 - 14:56 | 2448420 falak pema
falak pema's picture

Why the Euro is not crashing : Pax Americana wants to protect the banking ponzi; aka USD weak and WS strong. So Euro gets pumped up to sustain the world wide ponzi. Its a long slide down with all revolving doors working overtime. 

The whole show is organised from DC with FED/City pump and Oligarchy primary distributor collusion; those very banksta shills who would burn if the pump went dry. 

Only problem : Frau merkel is not on board...

Mon, 05/21/2012 - 15:42 | 2448588 StockHut
StockHut's picture

The trade is too trendy right now.  Euro shorts just reached a historic high.  Wait for a near-term short squeeze then hop back in.

Mon, 05/21/2012 - 15:49 | 2448605 Sudden Debt
Sudden Debt's picture

Like bernanke would allow that to happen to the dollar. They'll just print to even it out

Fri, 05/25/2012 - 02:52 | 2461477 agagshoes
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