The in-and-out nature of the headlines about Europe are masking a harsh reality — the Greek debt crisis is out of control and it is going to spill over to the other nations with sovereign debt at risk.
The European Central Bank dare not raise rates and a new head of the ECB from Italy will be more sympathetic to creating liquidity. Collectively, European nations will have to support their banks by supporting ECB actions, perhaps even voting for a larger and equally ineffective bailout fund.
The play here is to short the euro — and avoid currency markets. Instead, buy puts on the CurrencyShares Euro Trust (NYSE: FXE), the exchange-traded fund for the euro. The puts are somewhat liquid but be careful as longer term positions are less liquid. Look at a January 2012 position, at least a couple of strikes out-of-the-money. FXE closed at 142.56 yesterday.
Here is why the euro should fall:
First, several European nations, led by Finland with Germany not far behind, are saying they will not bail out Greece with more funding. They argue it is up to the ECB and the bond market.
Second, the crisis will not be resolved. Greece must default with the restructuring and fallout managed by the ECB. The new word for default used by bankers is “reprofiling.” This, of course, is different from restructuring — another term for default. But a default is a default — and that is when a nation refuses to redeem bonds on the terms you sold them.
Third, European leaders are willing to let the euro fall rather than fail due to the need to boost exports. Every government in the region is cutting back. There are savage austerity programs, rising unemployment and indicators of recession in Greece, Spain, Portugal and Ireland.
Fourth, the dollar is going to rise as debt and deficit issues push up interest rates a bit. The currencies of second-tier countries that export commodities are also rising. This puts pressure on the euro.
Lastly, harshly negative headlines are going to multiply about Greece, European debt and the euro.
All of this means a falling currency. Traders are now unwinding short positions on other currencies and long positions on the euro. The euro has fallen to 140 on the dollar, the technical support lays around 130, and the long long-term support is around 110.