NEW YORK (BBH FX Strategy) -- The dollar is broadly stronger against most major and emerging markets currencies as risk appetite dwindles. Behind the movement is a continued uncertainty over the developments surrounding Greece and French President Nicolas Sarkozy's pledge to impose a financial transaction tax starting in August.
As a result, French banks are currently down 5.3%. EUR/USD is trading at 1.3126 down from a recent high of 1.3234, and looks set for the first lower close after rising in five consecutive sessions.
As expected, AUD and NOK were the underperformers in DM while high beta EM currencies such as ZAR, INR and RUB saw the larger losses against the dollar. Italian sovereign debt yields are up as much as 30 basis points across the curve despite the favorable result of a 7.5 billion euro bond auction.
Also of note, Portuguese 10-year yields are up 83 basis points to 15.48% as investors remain concerned that Portugal will be the next in line to have to restructure its debt.
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European Union leaders meet today, in the first EU heads-of-state summit of the year, to discuss the new fiscal compact for tighter budget control that would move the eurozone closer toward a fiscal union. Overall, the summit is expected to focus on finalizing plans for the European Stability Mechanism (with the possibility of topping up the mechanism to 500 billion euros), together with the fiscal compact and policies to stimulate economic growth and employment.
The European Central Bank has complained that the plans have been watered down compared to the original agreement in December and details of the proposed treaty changes will be watched carefully. Markets hope that the agreement will give the ECB more room to maneuver, given that stricter rules and further budgetary oversight is likely to limit moral hazard concerns.
At the same time, a new fiscal compact is also hoped to help stabilize markets and reduce the fiscal risk premium in the eurozone. Yet there is no sign of an agreement in Greece, which has rejected calls for budgetary commissioner to oversee the Greek budget as part of a new bailout package. Consequently, developments on this front may steal the spotlight form the summit and in our view uncertainty over the outlook for Greece is likely to temper momentum in the EUR after its 5-day winning streak. Near-term support is seen between 1.3075 and 1.3080, with a downside break of that range opening up 1.290. Resistance is seen near 1.316.
