The euro managed to take a breather on Tuesday, lifting its head above water after plunging across the board in the previous three sessions. Commodity currencies also advanced as risk appetite improved despite Standard & Poor’s downgrade of the European Financial Stability Facility (EFSF) to AA+ from AAA.

Other countries cut by one notch were Malta, Slovenia and Slovakia- Emman Xuereb

S&P’s latest downgrade came in the wake of the agency’s downgrades of nine eurozone nations including France and Austria which were stripped of their AAA status. The CEO of the EFSF, Klaus Regling, in response to the downgrade said the facility’s investor base was well-diversified and outlined that it still holds AAA ratings from two other agencies.

However, European Central Bank President Mario Draghi warned that such a move would eventually have its “consequences”. Germany, one of only nine AAA countries globally, not on a negative outlook left, quickly rejected any possibility of raising its guarantees for the EFSF, saying that current funding was adequate. The Finance Ministry also said that it saw no need to act on the European Stability Mechanism (ESM).

The single currency fell very sharply across the board late on Friday as rumours starting surfacing of S&P’s action, which were not confirmed until close, but by then the damage had already been done. Italy, Spain, Portugal and Cyprus each suffered a two-notch cut, with Italy now falling to BBB+ only three notches above “junk”. Other countries cut by one notch apart from France and Austria were Malta, Slovenia and Slovakia.

The single currency was already under pressure on Friday, following a lukewarm Italian auction. The Italian debt sale attracted satisfactory demand but was nowhere near as impressive as the Spanish bond sale the previous day, in which the Spanish Tesoro sold double the initial target of €5 billion in three year paper.

EUR/USD plummeted more than 250 pips on Friday to a 17-month trough at 1.2624. EUR/JPY also extended its decline and fell to an 11 year low of 97.04 at the start of this week. The pound has also been favoured by recent events surrounding the eurozone periphery. Given the United Kingdom’s relatively stable ratings status, compared to the eurozone, and gilt markets continuing to provide adequate liquidity. Sterling has been sought by forex investors as an alternative to the US dollar. In fact it has been dubbed a “semi-safe haven” as traders are increasingly seeking it for protection from the sovereign debt crisis.

EUR/GBP continues its downward trend from its one-year peak of 0.9083 in July 2011. It lurks close to a 16-month low hit earlier this month at 0.8222. The pair is expected to continue its current trend, and trade lower towards the 0.8000 level. Support is seen lying around the recent low levels at 0.8220 and 0.8160.

Risk appetite nudged higher on Tuesday and higher-yielding assets rallied across the board. Risk was buoyed by strong Chinese GDP data and stronger numbers from Europe. Both Spanish and EFSF bond auctions were relatively successful and the euro pushed higher. The German ZEW was strong, with the economic sentiment indicator printing -21.6 versus consensus for -49.4 while the current situation index improved to 28.4 against a forecast for 24.0. Economists were saying that ECB liquidity, lower yields and better US data boosted sentiment.

In separate bond auctions on Tuesday the EFSF sold €1.501 billion of six-month bills at an average yield of 0.266 per cent, while Spain sold €4.88 billion in short term treasury bills, at the higher end of the €4 to €5 billion target range. Borrowing costs fell for Spain to 2.049 and 2.399 per cent compared to the previous 4.05 and 4.226 per cent for similar maturities.

The single currency was also supported with talk of a possible intervention in EUR/JPY after Japanese Finance Minister Jun Azumi said he had not yet made a decision on the matter. However, the single currency was losing some of its initial strength by the time of writing as the outlook remained bleak with risks of a Greek debt default and prospect of more interest rate cuts by the European Central Bank hanging over it. EUR/USD pared some of its gains at the time of writing. It dipped down to 1.2711 from a high of 1.2809.

Upcoming FX key events:
Today: US CPI & Philadelphia Fed Business index, Canadian Manufacturing Sales.
Tomorrow: German PPI, UK Retail Sales, Canadian CPI & US Existing Home Sales.

Technical key points:
EUR/USD is bearish, target 1.2500, key reversal point 1.3350.
EUR/GBP is bearish, target 0.80, key reversal point 0.8550.
USD/JPY is neutral.
GBP/USD is neutral.
USD/CHF is bullish, target 1.0050, key reversal point 0.8550.
AUD/USD is neutral.
NZD/USD is bearish, target 0.7300, key reversal point 0.8239.

Please feel free to send any comments or feedback regarding our articles on trading@rtfx.com.

RTFX Ltd (“RTFX”) is licensed to conduct investment services business by the Malta Financial Services Authority. This information does not constitute an offer or solicitation and is provided for information purposes only.

This information shall not be deemed to constitute advice and should not been relied on as such to enter into a transaction or for any investment decision. Any opinions expressed in this document represent the views of RTFX at the time of preparation.

They are thus subject to change without notice. RTFX believes that the information contained herein is accurate as at the date of publication. However, no warranty of accuracy is given by RTFX and no liability in respect of any error or omissions, including any third party liability, are accepted by RTFX or any director, officer or employee.

Mr Xuereb is a trader at RTFX Ltd.

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