May 25, 2011 – The Vultures are Circling Around the Euro

Featured Trades: (THE VULTURES ARE CIRCLING AROUND THE EURO), (FXE), (EUO)

 

2) The Vultures are Circling Around the Euro. It has not been a great week for the beleaguered European currency (FXE), (EUO). The chickens, no, make that vultures, are coming home to roost.

Belgian and Spanish debt has been downgraded. The UK's debt is under review. The ratings agencies now seem to be taking aim at Italy. Perhaps the only good news for the Euro is that former IMF chief and future French presidential candidate, Dominique Strauss-Kahn, was able to post bail for his sex crimes in New York.

To understand why Italy is such a big deal, take a look at the chart below showing bank holdings of PIIGS debts. Italian bonds are far and away the most widely owned, dwarfing all other sovereign issuers combined, and their default would certainly wipe out a major portion of European bank capital. If you wonder why I am constantly asserting that European banks have a de facto negative net worth and their eventual demise with bring the death of the euro, this is a good reason.

In the meantime, hedge funds are starting to jump on the bandwagon for the Euro short play. Some two thirds of the long positions in the futures markets have been liquidated in the past ten days. We will see the next down leg for the Euro when the reminder gets dumped and the street flips to a net short. As for me, I have been short since $1.49 and am comfortable with the position. Any rally from here, and I will be quite happy to double up.

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Is That a Euro I See?