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FOREX-Euro slips before ECB meeting on FX debate caution
February 6, 2013 / 1:06 PM / in 5 years

FOREX-Euro slips before ECB meeting on FX debate caution

* Markets cautious that euro strength may concern ECB

* Could dip further before ECB meeting on Thursday

* But broader trend for further gains intact

* Yen remains weak, earlier hit 33-month low vs dollar

By Jessica Mortimer

LONDON, Feb 6 (Reuters) - The euro slipped on Wednesday, with traders taking more cautious positions ahead of the European Central Bank meeting in case its president Mario Draghi expresses concern about the high level of the euro.

However, most analysts believe Draghi will avoid commenting on the currency, instead cautiously recognising the improvement in the euro zone outlook and in market sentiment while acknowledging the region still faces many hurdles.

Traders said the euro was likely to be sold on any rallies ahead of Thursday’s ECB meeting, but it could resume its recent rise afterwards.

The euro was down 0.4 percent at $1.3526, edging away from last week’s 14-month high of $1.3711, with political uncertainty in Spain and Italy also weighing.

Against the yen the euro was down 0.3 percent at 126.75 yen , off a 34-month peak of 127.71 yen hit in Asian trade, with the yen remaining under selling pressure on expectations of aggressive monetary easing in Japan.

French President Francois Hollande called on Tuesday for a target exchange rate to protect the currency from “irrational movements”, although the idea ran into immediate opposition from Germany.

The ECB is expected to leave interest rates on hold on Thursday and the focus will be on Draghi’s subsequent news conference.

“The market is a bit nervous ahead of the ECB meeting ... people would like to know what the ECB’s position is as regards Hollande’s comments,” said Antje Praefcke, currency strategist at Commerzbank in Frankfurt.

She said she expected Draghi to be cautious and avoid commenting directly on the currency, although he was likely to face questions about it. If Draghi did comment on the potentially harmful impact of a stronger euro, however, it could be seen by the market as a kind of verbal intervention.

Analysts at Deutsche Bank recommended clients take profit on long euro positions at this point. They said they were “turning more neutral” on euro/dollar, though they still expect a $1.35-$1.40 range for the rest of the first quarter.

The euro’s trade-weighted index has risen 3 percent since early January, but analysts still see scope for more, albeit more gradual, gains.

“The next target is $1.36 and then $1.38 when the euro should run out of steam. I think $1.40 is a bit too far, especially given the political problems that have already arisen,” Commerzbank’s Praefcke said.

Banks have been repaying the ECB’s ultra-cheap three-year loans which has acted as an effective tightening of euro zone monetary policy at a time when the U.S. Federal Reserve and the Bank of Japan are expanding their balance sheets.

WEAK YEN

The dollar last up 0.15 percent on the day at 93.76 against the yen, just below a 33-month peak of 94.075 hit in Asian trade. Traders reported hedging-related demand and buying by longer-term investors, with supporting bids at 93.50 yen.

News on Tuesday that current Bank of Japan Governor Masaaki Shirakawa will step down three weeks earlier than planned spurred the latest bout of yen selling.

Japanese Prime Minister Shinzo Abe, who has put the BOJ under pressure to do more to spur the economy, has made it clear he wants a governor who will be bold in easing monetary policy.

“As far as Japan is concerned they are exceeding market expectations with the pace of policy implementation and that’s going to keep the yen under pressure,” said Ian Stannard, European head of FX strategy at Morgan Stanley.

He said Morgan Stanley’s first quarter forecast of 95 yen was likely to be exceeded, and a test of 98 to 100 yen was now within reach.

Trends in FX options reflected widespread expectations of more yen weakness. Implied volatility on one-month dollar/yen options - a measure of expected price movements - rose above 13 percent to hit its highest since August 2011.

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