EFSF bonds do not address the main problem

THE Eurozone seems to escape disaster every week. Unsurprising since it always seems to have a new tactic up its sleeve. Yesterday’s was the first auction of the European financial stability facility (EFSF) bonds. Investors poured into bonds to the tune of €40bn.

This should have been predictable considering the bonds are AAA-rated, offer higher yields than German bunds and most investors have a vested interest in the single currency’s survival.

But this was still not enough to give the euro stability. It fell sharply against the dollar in the morning session despite the huge demand for the EFSF bonds.

While the euro’s decline is partly thanks to positive US data, this should not have overshadowed the enormous €40bn-worth of bids for EFSF funds from the world’s biggest public and private funds. Particularly considering brokers are reported to have said they had never taken a larger order book on a bond ever, government or corporate.

Senior trader at WorldSpreads Gary Thomson says: “While some analysts are now calling the dollar a good buy, I think the reason for today’s move is probably more to do with traders’ underlying concerns about the sustainability of the euro. People don’t think it deals with the euro’s fundamental problems.”

Thomson says that WorldSpreads has reacted to this view by making a market on how long the euro will last: “People are flooding into the trade. The overwhelming response has been to go short on a member country withdrawing within the next 700 days.”

But IG Index’s chief market strategist David Jones is more optimistic for the single currency: “The fact the bond issue was oversubscribed eight times over emphasises the fact that there’s still an awful lot of life left in the common currency. The short-term reaction just after the bond auction began was positive for the euro.” But he concedes that any future gains for the currency are “unlikely to be in the stratospheric category.”

Michael Hewson of CMC Markets also thinks that the euro is unlikely to rally: “Until countries like Spain start thinking seriously about restructuring their debt, the euro’s problems will come creeping back. The EFSF bond is a bit like kicking a can down the road, it only delays the problem – you can’t kick it away forever.”

The Eurozone’s delaying tactics maybe good enough until then, leaving the euro range bound against the dollar in the medium-term. But beware, for as long as the real solution is ignored, the currency will tend towards the downside.