EUR USD (1.2555) The general grumble among investors yesterday was that the scale of global economic deterioration was continuing to outpace that of the policy responses. It was not just that the Fed only extended Operation Twist; the political wrangling over the eurozone crisis, and a non-committal G20, both had a part to play in this perception of policy inertia. Each country or institution seems to have policy recommendations for other countries or institutions, but the other refuses to co-operate. So even when an increasingly outspoken Christine Lagarde delivered overnight the IMF’s list of policy suggestions for EU leaders, investors simply shrugged, resigned to the belief that none of them would be implemented. As a result, risk aversion returned to the market and the euro suffered under a renewed flight into the US-dollar. However, this euro decline is very different from the one that unfolded last month. In May, many mediumterm traders were surprised by the weakness. Even as they sold, they scrambled to buy downside protection, hence the rise in option volatility. The recent rebound to $1.27 appears to have offered them the opportunity to sell at more comfortable levels. The implied volatility has now shrunk and the Market Bias Index was at zero as recently as yesterday. This means the downside pressure might not be as intense as before and, should the euro exit its congestion area (1.2435 – 1.2740) to the downside, a false break would be possible.
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Deutsche Bank