The incredible rally in the U.S. Dollar may gain even more momentum today as several key pieces of economic data are set for release at 8:30 am est.  This week has seen the largest weekly decline in the Euro and Pound since the height of the EuroZone Debt Crisis in May.  Investors are seriously concerned about the economic recovery around the world, and these concerns are beginning to translate into a strong risk aversion capital flows in asset markets throughout the world as equity markets in the U.S., Europe, and Asia have tumbled this week, along with high-beta currencies.

For several weeks, we have been calling for a strong bout of risk aversion to enter the markets this fall that could pull the Euro beyond its lows of 1.1875; however, we did not expect the downside rush to happen this quickly.  Let's break down this move in the Euro.  Currently, the slow-down in the United Stated economic recovery has been overwhelmingly confirmed by deteriorating economic data releases throughout the months of June and July.  Employment Claims came out weak again yesterday, and this continued to confirm investor fears that we are very far from a normalized labor market in the United States, which will, in turn, continue to slow down the economic recovery for the foreseeable future.  As stated yesterday, this weakened outlook for the U.S. economy plus the negative outlook for the U.K. and China has caused a strong bout of risk aversion to enter financial markets this week.  The outlier, however, is the EuroZone.

Although, the Euro has fell dramatically this week, the EuroZone is still quite well in its economic recovery.  Early Friday morning, German Prelim GDP came out at 2.2, which was nearly double the market expectation of 1.3%.  However, this significant surprise to the upside was not enough for investors to bid up the euro.  In the direct aftermath of the release, the euro moved up slightly from 1.2870 to 1.2900, but then it fell 70 pips to 1.2830 a few hours after the release.  This inability for the euro to move higher is a bit disconcerting.  Let's examine why.

If the euro is falling sharply right now due to global growth concerns, what will happen when bad news starts to come out of the EuroZone?  The answer-the bottom could fall out of the euro.  The euro has essentially fallen off its HI's this week of 1.3330 down to 1.2780 with virtually no negative euro news backing up the precipitous decline.  This behavior, in our view, is foreshadowing what may happen later this fall.  Although no one can know for sure when the euro may fall apart this fall, we can be fully aware of what may cause a dramatic fall.  Then, when these signs begin to surface in the news, we will know that a strong decline in the euro may be very near.

Risks in the EuroZone

Currently, the austerity measures in the EuroZone appear to be working.  Greece, Portugal, and Spain have slashed budget deficits and implemented very strict austerity measures.  These drastic economic changes have caused a domestic uproar in each country as unions and citizens fight back with strikes, but, at the moment, despite public disapproval of the austerity measures, they seem to be working.  But, let it be clear, they seem to be working at the moment.

Many economists are very concerned with European Central Bank President Jean-Claude Trichet's adamant command that struggling and fragile economies such as Greece adopt these strict austerity measures.  Many of these concerned economists believe these austerity measures will soon weigh heavily on EuroZone growth and, in a worst case scenario, cause the EuroZone economy to fall back into recession.

The second major concern in the EuroZone is the ability for Greece, Portugal, and Spain to raise money in capital markets.  Their bond auctions have been very successful through June and July, and that is one of the primary reasons the euro rallied as sharply as it did versus the Dollar during June and July.  However, if these bond auctions begin to fail and these countries become unable to raise capital in the market, then this will cause an incredible amount of investor concern and will most likely weigh heavily on the euro.

Thus, these are the two major concerns in the EuroZone.  When either of these two scenarios unfold this fall, the drop in the euro could be very significant and very fast.  The fact the euro is struggling at the moment in light of good EuroZone news has us very concerned about the fate of the euro when bad EuroZone news begins to materialize.

Key U.S. Data Set For Release Friday

Friday morning should offer market participants a pretty clear picture of the economic recovery in the United States.  Everyone is fully aware the recovery has stalled, but investors are still trying to piece together the puzzle to determine how significant the stall is.  In financial news today, Goldman Sachs released a report stating there is now a 25%-30% chance the U.S. economy could slip back into recession.  These fears of a double-dip recession are present in the market, and if economic data continues to support this possibility, it will cause incredible flows of risk aversion in equity markets and FX.

Retail Sales and Consumer Sentiment are set for release this morning, and both of these key pieces of economic data are considered leading indicators of economic health.  Retail Sales, of course, is a central aspect of economic growth.  Retail Sales are expected to come out at 0.5%.  This report will be of great importance.  Negative Retail Sales in June was one of the first economic releases that set off major concerning regarding the economic recovery in the U.S..  July followed up with negative Retail Sales as well.  This month, the figure is expected to show increase.  If the figure does surprise to the downside and show a third consecutive month of contraction, it will most likely cause a sharp sell-off in equities and capital flows into the U.S. Dollar in the coming days.