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While US weakness is in the limelight, the situation in the old continent isn’t doing much better. Italian and Spanish bonds are falling, and EUR/USD follows with a free fall, losing more than 250 pips from the peak today.

Spanish ten year bond yields are already at 6.17%, much higher than the levels after the EU summit and very close to the all time highs of around 6.30%. Spreads between Spanish and German yields are at around 370 points (3.70%). Italy isn’t doing much better.

Italian bond yields are touching the magic number of 6% once again, at the peak seen before the summit. These high yields aren’t only traded in the markets: when Italy raised money last week, it not only paid high prices, but also wasn’t able to complete the wanted funding.

EUR/USD is now at 1.42, down from 1.4340 before the terrible US ISM Manufacturing PMI was released. This sector almost came to a full stop. In the current environment, bad US figures mean a weaker euro against the dollar – risk aversion at its best. US weakness is worse news for Europe.

The focus was on the US debt ceiling and the dire US economic indicators. A deal was struck in Washington, but its details will probably not fully satisfy S&P. In addition, it is still pending approval. So, the situation is OK, but not really good.

As I’ve written after the EU summit: the leaders took serious steps, but not enough. The burden on Greece is still huge, and the preventive powers that were given to the EFSF to battle the current situation in Spanish and Italian bonds, will be realized only towards the end of the year. The market doesn’t wait and we now see the sell off.

All in all, the euro fell around 250 pips from the peak. It couldn’t break the tough 1.4450 resistance line. Support is found at 1.4160, followed by 1.41, 1.4070 and 1.4030. Resistance is at 1.4220, followed by 1.4282.

For more on EUR/USD, see the euro to dollar forecast.