Euro Falls on Deteriorating Economic Performance of Italy

The euro lost some of its recent gains against the U.S. dollar on Wednesday, following a fall in Italy's business confidence. Presently, the euro is trading around $1.4483, or 0.19% below its previous close. At the same time, the euro's fall was much steeper against the Japanese yen as the European currency retreated 0.46% to trade around ¥112.48. The euro was hit by deterioration in Italy's business confidence. In June, Italy's business confidence fell for the fourth consecutive month to 98.5 from 100.5 in May. The June value was below market expectations of 99.7. This is the latest sign of how fragile the recovery is in the Eurozone's third largest economy. Italy is beset by political instability and massive debt. In recent weeks, the Italian/German bond yield spreads were rising; creating panic among investors who became worried that Europe's fourth largest economy might follow the same path as Greece, Ireland and Portugal. In Germany, the Eurozone's most influential member, there is more evidence of weakening inflationary pressures. According to Federal Statistics Office, the index of import prices fell 0.6% in June, compared to a month earlier. In May, import prices also declined 0.6% on a monthly basis. On a yearly basis, import prices were 6.5% higher in June, down from 8.1% in May. Earlier this month, the ECB made a controversial decision to increase interest rates to 1.5%. The ECB was worried about high inflation in the Eurozone center, and was prepare to risk higher debt burden in the Eurozone periphery in order to contain it. Since then, data mostly suggested decreasing inflationary pressures in the Eurozone, and the latest data from Germany fits well into this picture. As a result, it is very unlikely that the ECB will raise its interest rates any time soon. In recent days, the euro was rising against the greenback as debt worries shifted from the Eurozone to the United States. There is little evidence to suggest the two sides in Washington are able to resolve their differences and reach an agreement that would raise the debt ceiling and save the U.S. from an imminent bankruptcy. Democrats will be pleased to hear that Republicans have rescheduled the planned Congress vote on John Boehner's deficit reduction plan due to mounting opposition within his own party. Republicans have been reluctant to combine tax increases with spending reductions in order to eliminate the government's budget deficit. Even some members of foreign governments have openly placed the blame for the failure to reach an agreement on Republicans by calling some of them “right-wing nutters”. It is still possible that the two sides will reach a last minute deal as the costs of a failure to raise the debt ceiling will be massive. Rating agencies have already warned there is a chance the U.S. government will lose its triple-A rating. By some analysis, a downgrade of the U.S. credit rating will add around $100 billion of new debt every year. ACTION ITEMS:

Bullish:
Traders who believe that the Europeans have come up with a credible plan to resolve the debt crisis on the Eurozone periphery, which should provide a solid ground for the Eurozone recovery, might want to consider the following trades:

• CurrencyShares Euro Trust ETF FXE is a long play on the euro. FXE may rise if the euro appreciates.

• ProShares Ultra Euro ETF ULE is another long play on the euro. However, FXE should rise more than ULE if the euro appreciates.

Bearish:
Traders who believe that Greece will experience problems in implementing its reforms, which will reduce market confidence in the Eurozone, may consider an alternate positions:

• ETFS Short Euro Long US Dollar ETC (Sterling) ETF (SEUP) is a short play on the euro. SEUP may rise if the euro depreciates.

• Market Vectors Double Short Euro ETN DRR is another short play on the euro. However, SEUP should rise more than DRR if the euro depreciates.

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