Currency Trade: Long USD, Short Euro

This is not a new trade (short EUR/USD), in fact both this trade and the long yen trade (against almost any currency) have done very well the last few months. However, European economies are actually in worse shape than the US and their financial systems more troubled, though for somewhat different reasons. Europe is now dealing with a deep banking crisis and Asia faces a plunge in exports, the financial contagion will be more deeply felt outside the United States than within.

"In contrast with the United States, Europe's banking systems is fraught with many portions that are not very healthy. Italian, Swedish, and Austrian banks are far too exposed to Central Europe, which is now in a credit crisis. German banks' corporate ties have left them with poor assets far greater in value than anything American subprime practices created. In addition, Spanish and Irish banks face much deeper subprime problems relative to their economic size than American banks. And the list goes on and on. So while the United States has a liquidity crisis that can be addressed "relatively" easily, Europe faces a banking debacle that has been uncovered by the liquidity crisis -- and dealing with that banking debacle is likely to take more than a year. "

With these ongoing problems in Europe, the ECB will be forced to continue to cut rates more dramatically than previously thought and increase liquidity injections. All this points to a stronger USD vs. the Euro. In addition, further market weakness will lead to a continued flight to safety, which means a strong USD. Look for possible EUR/USD parity within 12 months or less.