The Euro Presents a Clear and Present Danger for Global Capital Markets

May 5

By Michael Markowski

The collapse of the Euro yesterday was swift and steady as it not only fell through the 1.31 level but also fell to below 1.30 to as low as 1.29.38. Today the Euro has already fallen to as low as 1.28. The lack of any support for the Euro is analogous to a hot knife being put through a stick of butter.

Normally, currency fluctuations occur over long periods of time. When in a down pattern or trend a currency will hit a new low and than rally for at least a day or two before resuming its trend line. The Euro has showed no such behavior against the U.S. Dollar this week and this is especially disconcerting because the European Union voted over the weekend to bailout Greece. The behavior or the slide in the Euro in the face of seemingly good news suggests that there is little or any support for the Euro. The Euro, for much of the time period since its inception on January 1, 1999, enjoyed an extended honeymoon with investors. This honeymoon is now abruptly over and has been replaced by the possibility of a nasty divorce. The Euro is now experiencing adversity the likes of which the European Union member countries have never seen since they replaced their currencies.

The present situation for the Euro is much more adverse or extreme than it was back in 2001, because its problem this time has been caused by Europe and not the USA. Investors are not temporarily avoiding the Euro like they were in 2000 because of economic concerns or until the smoke clears. They are avoiding it like the plague because the probability of a break up of the European Union is increasing with each passing day. Should a break up occur the instability of Europe would be devastating for its economy. The re-launching of former currencies for each of the member countries would likely result in either hyper inflation or hyper deflation for each of the countries.

Approximately two years after its launch in 1999, the Euro hit what still represents its all time low versus the U.S Dollar at .85, meaning that it cost $.85 to buy a Euro back then. The low point of the Euro back in October of 2000 was the result of a flight to safety, which was caused by the bursting of the dot-com bubble and the significant decline in the NASDAQ composite index.

The level of adversity that the European Union is now facing is the most extreme in the unions’ existence. It has never experienced such adversity in the 12 years that its members have been sharing one currency. Therefore, the probability of the Euro going back to test its all time lows that it made against the U.S. Dollar in October of 2000 is high. A retest or a piercing of those lows by the Euro against the U.S. Dollar would be the right remedy for the European economy assuming that the European Union does not shatter before that happens. However, a retest of even the lows it made against the Dollar in 2000 would be devastating for the rest of the global economy and most especially for the United States. China also would be negatively impacted because the currency for the world’s third largest economy is tied to the Dollar. A simple explanation on the effect that a new low for the Euro against the Dollar would have is that the price of a newly ordered jetliner purchased from Boeing by a European airline would increase by 100%. On the other hand the price paid for an Airbus jet by a U.S. airline would decline by50%. Under this scenario it would be very difficult for Boeing to compete.

A rising U.S. Dollar to all time highs against the Euro and other currencies will not be an easy problem for the finance and economic ministers and politicians of the world to solve. Why? The two most important and most liquid currencies in the world are the U.S. Dollar and the Euro. The United States and the European Union economies are a approximately the same size or about $14 Trillion. The next biggest economy after the USA and the European Union is China. Its GDP is at $7 Trillion, which is about one half of the size of the United States and Europe. Thus, a break up of the European Union would leave the U.S. as the world’s largest economy and the U.S. Dollar as the world’s only liquid currency. The likely result of a breakup of the European Union would be that the U.S. Dollar could remain at high levels against all major currencies for years. Such a scenario could seriously harm all export driven U.S. manufacturing companies and industries for years or even decades.

For more on why I believe that the U.S. is currently in a Super Bear market and why I expect it to last until 2015 at the earliest go to www.bearmarkettracker.com. Investors should remain cautious and have their assets in 80% cash or equivalents such as short term U.S. treasury securities.

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