Although the euro came under considerable amount of pressure during the final week of the year slipping to a 15 month low against the dollar and a decade low against the yen, the single currency could rebound into the new year when traders comes back to their desks.
The latest bout of euro weakness was caused by fear that Italy would not be able to refinance its ten year paper but the Italian auction went off without a hitch although it was hardly a vote of confidence.
Italian 10 year bonds managed to come in just below the key 7 per cent level at 6.97per cent with a rather unimpressive bid to cover ratio of 1.3. Overall, the results suggested that despite deep concerns, Italy is still able to finance the long end of the yield curve albeit at much more expensive rates.
While Wednesday's short term paper saw its yield nearly halved from the peak in November, Thursday's reduction in yields on the longer maturity bonds was decidedly more modest at 60bp from their November highs. The auction data showed that the world's third largest bond market remains under stress but may be slowly receding from the panic levels recorded in November.
The relief over the Italian bond auction helped stabilise the euro as the week came to a close, but what really fueled the recovery rally was the much better price action in US equities. With US economic data continuing to surprise to the upside, investors are starting to respond positively to risk assets and that dynamic is helping to stabilise the euro.
Next week US economic calendar is full of important data including both ISM services and ISM manufacturing reports as well as Non-Farm payrolls report which will be the marquee release of the week. Chances are good that the data will show improvement given the positive readings in US regional indices and consistently strong weekly jobless claims numbers.
If US stocks can start off the New Year with a rally, risk assets like euro/dollar could see further gains as the week progresses. The rebound could catch many of the bears by surprise and push the pair back to the 1.3200 level as short scurry for cover.