FOREX-Euro holds gains after short-covering rally; Spain eyed

Mon Apr 16, 2012 8:44pm EDT

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By Antoni Slodkowski

TOKYO, April 17 (Reuters) - The euro on Tuesday held on gains after short-covering helped it pull back from two-month lows against the dollar and the yen the previous day, but is still seen as vulnerable ahead of a Spanish bond auction.

Spain is set to see its borrowing costs leap when it sells short-term bonds after jitters over its deficit and banking sector pushed longer term risk premiums above 6 percent and drove the cost of insuring its debt to a record high.

The euro was broadly unchanged from late New York levels at $1.3131, having aggressively pulled away from a nadir at $1.2995.

It closed above a crucial support at 1.3006, which is the 23.6 percent retracement of its October-January fall. That level has held after being tested in both February and March.

"There's a lot uncertainty about Spanish yields, so of course if something goes off script at the auction today the euro may come under pressure again," said Bank of Tokyo-Mitsubishi UFJ analyst Teppei Ino.

"That said, the support around $1.30 is very strong and it held overnight, so I would expect the currency won't be able to break it just yet."

Traders said there were stop-loss sell orders below $1.2970 and were eyeing further support at $1.2955, around the 61.8 percent retracement of the euro's climb from its January low to a peak in February.

Spain also holds auctions of two-year and 10-year bonds on Thursday. Any sign that 10-year yields are heading closer to 7 percent - a level that is regarded as unsustainable - could prompt further euro weakness.

Compounding its fiscal woes, Spain's banks borrowed a record 316.3 billion euros ($412 billion) from the ECB in March, almost double the previous month's total, as they remained virtually excluded from wholesale credit markets.

Against the yen, the euro was steady at 105.52 yen , having hit the trough of 104.63 yen on Monday, a level not seen since mid-February.

Against sterling, the euro was at 82.63 pence, gaining back some ground from Monday's low around 82.10, the lowest level since September 2010.

Commodity currencies were barely changed with traders awaiting the Reserve Bank of Australia policy meeting minutes due at 01:30 GMT.

The minutes were likely to reinforce the view that the bank will cut its cash rate by 25 basis points to 4.0 percent at its May 1 meeting, traders said.

The Australian dollar fetched $1.0351, in the middle of its recent range, with support seen around 1.0310, while the New Zealand dollar was down 0.1 percent at $0.8190.

With risk aversion back in force, market players bought back the yen, driving the dollar down to a seven-week low of 80.29, before it recovered slightly to last stand at 80.42 yen.

While many market players had expected the dollar to stay above 80 yen due to expectations of further monetary easing by the Bank of Japan later this month, some now see a greater likelihood of short-covering in the yen as data showed last week speculators' net yen short positions remained near five-year high.

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