DJ Forex Focus: More Than Euro At Risk From Greece Contagion Fears

LONDON (Dow Jones)--Fears of euro-zone debt contagion will hurt more than just the euro.

There are already signs that investors are now looking to pull back from risky asset markets in general, a move that will put emerging markets as well as commodity prices under pressure.

The end of last week may have brought the news that, after watching its funding costs rise to prohibitive levels, Greece finally caved in and went with the formal begging bowl to the European Union and the International Monetary Fund.

But the request was made before negotiation of the bailout had been completed and may well leave Greece reliant on short-term funding to keep it going until that happens.

In the meantime, the actual bailout itself remains uncertain.

The Greek request coincided with fresh indications that many in Germany are unhappy with the prospect of lending to a country that has trouble living within its means and that a constitutional block to the process remains.

Some reckon that the EUR30 billion promised by the EU, with another EUR15 billion from the IMF, won't only prove inadequate, especially after recent revisions to Greece's budget deficit, but that it will also make it more difficult for other cash-strapped euro-zone countries to service their own debts.

On the flip side, there are the problems the Greek authorities face in imposing further austerity. Even previous budget-cutting attempts have proved difficult, with public unrest only likely to intensify in months to come.

This means that the risk of a Greek debt rescheduling, or even further pressure for the country to exit the single currency, won't go away--making it likely that the upward pressure on yield spreads and credit-default-swap, or debt insurance, costs for other euro-zone debtors will remain under upward pressure, much as they were last week.

"While official rhetoric continues to suggest that default or an exit from EMU (and a competitive devaluation) are not on the table, the market is likely to stay sceptical until such time that the Greek budget deficit begins to show signs of improvement," said Jane Foley, research director at Forex.com in London.

While fears that Portugal and Spain, or even Italy, will start to have their own funding problems will only grow, there is also concern about the fallout on German banks, which will have to writedown the asset value of German bond holdings at a time when their equity bases are already under pressure.

This is certainly one reason why the German government will be eager to prevent a Greek default.

Understandably, these risks are expected to continue weighing on the euro, with forecasters suggesting that the single currency won't only make it down as far as $1.25 but could face an even more dramatic fall to $1.10.

This time round, though, other currencies are coming into the firing line as global investors start to pull back from other higher-risk asset markets as well. Emerging-market and commodity currencies, which have been helping to lead the global economy out of recession, are seen as most vulnerable, especially as many of them have already discounted the recovery.

A case in point is the Australian dollar, which got hit fairly hard Friday when the Reserve Bank of Australia appeared to be stepping back a little from its recent hawkish stance.

See the Australian dollar's fall:

"The growing nervousness regarding Greece is tempering the wider appetite for risk, and the market remains worried that these currencies already have a lot of good news in the price. This leaves them vulnerable to any setbacks," said Daragh Maher, deputy head of global foreign-exchange strategy at Credit Agricole in London.

Early Monday in Europe, Greece's loan request, as well as a fairly uneventful meeting of finance ministers from the Group of 20 industrial and developing nations over the weekend, helped to lift general market sentiment and has given the euro some respite. But financial markets are expected to remain wary while Greek negotiations with the EU and the IMF continue and the actual disbursement of funds to the country isn't entirely assured.

By 0645 GMT, the euro rebounded to $1.3370 from an earlier low of $1.3317 but is still down a little from $1.3372 late Friday in New York.

The single currency did make it up to Y125.93 from Y125.78, while the dollar rose to Y94.17 from Y94.06.

Bloomberg TNI FRX POV

   Reuters   USD/DJ    Thomson   P/1066 or P/1074 

(Nick Hastings has covered the foreign exchange markets and industry for over 20 years. Apart from his written commentary and analysis, he also appears on Fox Business News and CNBC television in Europe, Asia and the U.S. He can be contacted on +44-20-7842-9493 or by email: nick.hastings@dowjones.com)