**[investwise]** The Streets Are Getting Bloodier; Expect Euro:Dollar To Trade At 1

 

I see rolling funding crises in Portugal, Spain, Italy and Ireland. And I am not yet convinced that Greece will remain in the European Union due to the austerity measures, which will likely cause a colossal recession causing spiking banking system losses. The government is cutting spending equal to 10% of GDP in 2010, which given the spillover effects and the rioting, may cause an even bigger eventual decline in GDP.   In other words, this may be a full-blown crisis in Europe, and one that isn't ready to resolve yet. The euro is down a lot and should stabilize in the 1.23 to 1.24 region -- temporarily -- if the Greek situation is contained. So far, it isn't. Ultimately my target is 1, as the Eurozone is an experiment that has very unsound foundations.   What About the BRICs?   Now, I would like to ignore the euro and focus on our favorite BRICs, but that would be foolish given the 1,000 point Dow intraday crash on Thursday and the moves we had in stocks, junk bonds and currencies this week. The euro has finally caused a "risk-reduction" trade, where capital is leaving emerging markets.   However, this is normal and so far does not look like a repeat of 2008. The Brazilian real is trading at 1.85 -- arguably a huge move compared to where it was just a short while ago. Still, the euro is way lower than where it was in late January, when the real was at 1.90 to the dollar (more reals per dollar show a weaker real).   Now, keep in mind that the fact that the BRICs are doing better on a relative basis does not mean that there is no downside -- there always is -- but it does show that when the rally comes, they will be the ones leading the charge.   In the meantime, the U.S. Treasury market that everyone hates is flying and 10-Year note yields have dropped below 3.50%; they were a hair above 4% just about a month ago. This is money leaving euro-denominated bonds -- Greek 2-Year notes now yield 16%! -- and getting parked in U.S. Treasuries. Greece and the euro clearly matter to BRIC investors, which is why I plan to follow the issue closely here.   Intellectually, I am long-term bearish on U.S. bonds and bullish on BRIC equities -- I don't see the latter as risky as they have superior fundamentals. But, as we saw in Japan -- which has been a basket case for two decades -- this deflationary collapse may last longer than most expect in the U.S. Case in point, the Japanese 10-Year bond yield did make it down to 0.39%.   I am also intellectually bearish on the yen as mentioned before, but we are seeing a huge move to the upside in the last couple of days and you may wonder why. The yen is a funding currency due to the 0.1% short-term interest rate. Institutions borrow in yen and buy the Brazilian real, which yields 9.5% and that yield is likely heading higher. This is called a carry trade.   When there is a crisis of confidence, such carry trades are unwound, causing the real to go down and the yen to spike. You can trade the movement of the yen via the CurrencyShares Japanese Yen Trust (NYSE: FXY); the ETF also has options. I may not like the yen long term, but this is a carry unwind that is difficult to predict. This means that those short the yen to buy real have to cover, causing a short squeeze. From a strategic long-term perspective, the yen has serious issues. However, from a tactical short-term perspective, a further spike is possible. Can You Really Pick a EUR Target? Russell Napier of CLSA Asia-Pacific Markets says that he does not like to give targets since they will almost always prove wrong, but I have seen many of his targets get hit -- he was bullish last year with the S&P 500 at 900 saying his target was 1200 and so far he has been right on the money.   Quoting by memory, he said that the markets are like clocks with soft hands: You can see them moving, you can see the direction, and see the underlying fundamentals that are being discounted, but the targets will be off. You have to change your positioning when the facts change.   The facts on the euro have been changing for two years -- Greece is just the catalyst that has started the unraveling, not the cause. Great Britain is in worse shape than the U.S. I will take the opportunity to reiterate my long-term conviction that the USD:EUR:GPB troika will all reach parity -- 1:1:1 some day.   I seriously doubt that all three will be perfectly aligned on that "1" target for more than a millisecond, if ever, but they will be a lot closer to parity than you think. You can trade the British pound via the CurrencyShares British Pound Sterling Trust (NYSE: FXB) and the euro via the CurrencyShares Euro Trust (NYSE: FXE), which also have options.     Safe Harbor Statement: Some forward looking statements on projections, estimates, expectations & outlook are included to enable a better comprehension of the Company prospects. Actual results may, however, differ materially from those stated on account of factors such as changes in government regulations, tax regimes, economic developments within India and the countries within which the Company conducts its business, exchange rate and interest rate movements, impact of competing products and their pricing, product demand and supply constraints.   Nothing in this article is, or should be construed as, investment advice.

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