Watch the EUR/AUD cross very closely

Most forex market participants are probably perplexed by the ability of the euro to climb back through the 1.30 level over the past couple of days, despite the breakdown in Greek debt talks and the deep-rooted financial problems being experienced on the Iberian Peninsula. As observed by both ourselves and numerous other commentators, in cumulative terms traders currently have a record volume of short positions in the single currency. Interestingly, back in May last year, traders went very close to having record long positions in the euro such was the pervasive negativity towards the dollar at that time. Over the past two years, trader positioning in the euro have swung wildly, from massive pessimism in the second quarter of 2010 to unbridled optimism a year later and - now pervasive pessimism once again.

Over recent months, the majority of traders have adopted a negative euro stance through buying the Aussie dollar. As a result, the EUR/AUD cross has collapsed, from near 1.38 late in November to a recent low of 1.2220. Now at 1.2380, the signs in the last few trading days are that this cross might be due for a significant correction. With traders very short the euro and very long the Aussie, it is plausible that some short-covering in this popular currency-cross is already taking place, with more to come. If so, it would naturally benefit the single currency against the dollar as well. Right now, EUR/AUD offers critical insight into which direction the currency tide is turning.