Last week’s European Summit helped to create a little stability in the marketplace and allowed investors to get some much needed sleep over the weekend. Still, the lack of any clear details might create more uncertainty and selling pressure in the near term.
After the two-day summit, which ended on Friday, European Nations managed to come to an agreement that would see their national banks receive directly funding from the union’s bailout fund.
This agreement was important for countries like Spain and Italy, who wanted to make sure their financial sectors have enough liquidity so the latest credit crunch does not continue to grow. Continued growth could create a domino effect throughout Europe.
Another important aspect that came from this meeting is that the Euro zone also agreed to use the bailout money to help support the bond market. This has been another problem plaguing Spain and Italy. In the last few weeks, these two countries, in particular have seen yields skyrocket because, which means it costs them more to borrow money.
Before the EU Summit, yields on Spanish 10-year bond hit a record high of 7.29 per cent. Since then yields have dropped slightly and are now trading around 6.34 per cent.
At first glance, many markets analysts thought that Germany had lost a lot of political ground after the Summit, having giving in to these two major agreements. However, Germany scored an important victory, which was the creation of a centralized, banking supervisor agency, which would monitor European banks and provide a similar function as the European Central Bank.
The agreement created a strong feeling of investor optimism and equity markets, commodities and the euro all shot higher, however the optimism was not sustainable. Markets leveled on Monday, and we didn’t see any important follow-through buying, which could have confirmed the renewed optimism.
On Monday, the euro was unable to break strong resistance at 1.27, and on Tuesday closed the session at 1.2622, which is near an important support point.
If the euro is going to recover important territory, investors need to get a sense that central bankers and politicians are willing to do whatever is necessary to help support the faltering economy.
Markets now appear to be focused on the ECB interest rate meeting on Thursday. Economists are expecting the central bank to cut interest rates to help support the faltering economy.
If the ECB disappoints markets, the euro could sell-off sharply, giving up all of the gains made on Friday. A break below support at 1.26, could lead to a drop back to 1.24 and traders probably wouldn’t rule out a drop back to recent lows at 1.229.