France Loses AAA Rating In S&P Rout Of Eurozone

Market Brief

Risk appetite soured quickly on Friday afternoon, with the euro falling sharply on rumours of imminent S&P downgrades. The ratings agency eventually confirmed that France and Austria had lost their AAA ratings, while Italy, Spain, Portugal and Cyprus each had their credit rating demoted two notches, and a handful of peripheral members also suffered single notch downgrades. This swathe of downgrades will only increase the urgency for European policy makers to find a solution to the sovereign debt crisis, although we remain sceptical that any magic bullet exists for the Eurozone's current predicament.

The timing of the downgrades and drop in sentiment could not come at a worse time, as France is due to auction some EUR8.7bn of bills today, and the European Financial Stability Fund (EFSF) is scheduled to hold a EUR1.5bn sale tomorrow. A poor showing in either of those auctions will only compound the pessimism in the market. Therefore, it is likely that EURUSD and other EUR crosses continue to take a beating at the start of this week, and European equity markets are expected to also struggle in the coming session.

Overall the data release calendar is light; but given the public holiday in the US today (for Martin Luther King day), thin liquidity in the latter part of the European session could exacerbate volatility. We expect European leaders to hit back with rhetoric to counter some of the downgrade negativity, and as usual, developments in the bond and equity markets should remain a key driver of currency movements.