Euro Gains on Speculation Traders Exiting Bets on Its Decline

The market review blog today news Euro Gains on Speculation Traders Exiting Bets on Its Decline.

The euro climbed to its highest level in a week against the dollar amid speculation investors who bet on its decline amid Europe’s sovereign-debt crisis had to buy back the currency as it strengthened for a third day.

The euro headed for its largest five-day gain in eight months after yesterday rising from its lowest level since 2006 as traders theorized the European Central Bank may intervene to support the currency. German lawmakers today approved their country’s share of a $1 trillion euro-region bailout. The yen swing between gains and losses against the dollar as U.S. stocks gained for the first time in four days.

“There was certainly capitulation,” said Michael Woolfolk, senior currency strategist in New York at Bank of New York Mellon Corp., world’s largest custodial bank, with more than $20 trillion in assets under administration. “It was scorched earth yesterday and players are on the sideline licking their wounds. It may take weeks, or even months, for risk appetite to return.”

The euro advanced 0.6 percent to $1.2567 at 10:24 a.m. in New York from $1.2487 yesterday, after earlier rising to $1.2672, the strongest since May 13. The currency, which touched a four-year low of $1.2144 on May 19, has gained 1.7 percent versus the greenback this week, the most since the five days ending Sept. 11, 2009.

‘More Decisive’

The shared currency gained 0.9 percent to 113.02 yen from 111.99. It yesterday plunged as much as 3.8 percent to the weakest against the Japan’s currency since November 2001. The yen traded at 89.75 per dollar from 89.68. The Standard & Poor’s 500 Index rose as much as 0.9 percent after earlier falling as much as 1.5 percent that dragged it below its weakest level during the May 6 market rout.

The euro gained before European Union President Herman Van Rompuy hosts a meeting of finance ministers in Brussels today to discuss reforms to economic governance.

“Today’s meeting is an excuse to indulge in some short covering,” said Audrey Childe-Freeman, a senior currency strategist at Brown Brothers Harriman Ltd. in London. “There is little chance of any more big announcements today, but like the rumors of intervention it’s enough to give a little relief to the euro for now.”

Hedge funds and other large speculators on May 11 increased bets on a decline in the euro to 113,890 contracts more than those anticipating a gain, the most ever, according to Commodity Futures Trading Commission data.

Europe’s single currency has dropped 5.9 percent this year against its developed-world counterparts, according to Bloomberg Correlation Weighted Indexes.

Carry Trade

Today’s vote by German lawmakers allayed market concern they would balk at approving a second emergency loan package in as many weeks. The lower house of parliament voted 319 to 73 in favor of contributing as much as 148 billion euros ($184 billion) to indebted European states to backstop the euro; 195 lawmakers abstained. The upper house, or Bundesrat, also passed the measure, sending it on to President Horst Koehler for signature.

Brazil’s real dropped 6.6 percent against the yen this week as price fluctuations remained at elevated levels, sapping demand for carry trades, in which investors buy higher-yielding assets with amounts borrowed in nations with low interest rates. Japan’s benchmark lending rate of 0.1 percent, less than the 9.5 percent in Brazil, has made the yen popular for funding such transactions.

JPMorgan Chase & Co.’s implied-volatility index for six major currencies versus the dollar climbed to as high as 16.95 percent yesterday, the most since April 2009. The index traded at 16.22 percent today.

“The environment is becoming unstable with volatility at very high levels,” said Joseph Capurso, a currency strategist at Commonwealth Bank of Australia in Sydney. “The yen is about the only currency that does really well in this environment.”

‘Extremely Antsy’

Higher volatility suggests a greater risk for carry trades, where gains in the funding currency erode profits from the interest-rate differential, and may cause losses as it becomes more expensive.

The yen fell earlier versus the dollar after comments by Finance Minister Naoto Kan raised speculation Japanese authorities may act to weaken the currency. The yen surged more than 2 percent against the greenback yesterday.

“We must closely monitor the situation to make sure this won’t cause excessive yen appreciation,” he said.

A stronger yen reduces the competitiveness of Japanese goods overseas. Japan’s large manufacturers expect the currency to average 91 per dollar this fiscal year, according to a recent Bank of Japan Tankan survey.

“Yen below 90 is already an expensive yen,” Steven Englander, head of Group of 10 currency strategy at Citigroup in New York said in a Bloomberg Radio interview today. “There is an opportunity to short the yen at 90.”

‘Elevated Threat’

There is an “elevated threat” the central banks of Europe, the U.S. and Japan will intervene in currency markets though the threshold has not yet been reached, according to Morgan Stanley.

The chance of joint intervention by the Group of Three has increased to 30 percent, above the long-term average of 12 percent, Sophia Drossos, co-head of global foreign-exchange strategy at the U.S. investment bank, wrote in a note to clients. The probability is based on a model that takes into account factors such exchange-rate momentum and market positioning.

“The strongest warning signals in our model have been coming from the pace of euro decline rather than the direction of the move itself,” New York-based Drossos wrote in the note yesterday. “Other indicators in our model suggest euro weakness does not appear out of line with fundamentals or policy preferences.”