Euro gains ahead of EU summit later this week

NEW YORK: The euro strengthened on Tuesday as debt yields of some peripheral euro zone countries retreated ahead of an EU summit later this week on expectations a solution to Greece's debt problem may be reached.

Traders said official Asian and Russian names bought the euro as yields on Italian and Spanish government bonds eased slightly following a surge higher in the past week on concern the debt crisis is deepening.

The dollar briefly recovered against the yen after a government report showed US housing starts rose more than expected in June to touch a six-month high and permits for future construction unexpectedly increased..

It then fell back as some investors said that one monthly number, however positive and above the consensus, does not make for an improving trend in the nation's housing market. That market remains mired down with foreclosures and a huge inventory of unsold homes.

"There is some lightening of short positions ahead of (the summit) on the risk there could be some sort of agreement reached," said Omer Esiner, chief market analyst at Commonwealth Foreign Exchange in Washington. "But an agreement on Thursday could include some form of Greek default, which to me is not necessarily a positive outcome for the euro."

The euro rose as high as $1.42172 on electronic trading platform EBS before retreating to $1.4196, still up 0.6 percent on the day.

It found near-term support after breaking above technical resistance around $1.4111 and $1.4175, the 31.8 percent and 23.6 percent retracements of the euro's rally last week.

The euro also traded higher against other currencies, rising to a session high of 1.16556 versus the safe-haven Swiss franc.

Euro zone leaders are trying to complete an agreement on a second round of aid for Greece worth 110 billion euros ($154 billion).

But it remained unclear how a consensus could be reached for private owners of Greek government bonds -- banks, insurers and other investors -- to contribute by taking cuts in the face value of their holdings.

The European Central Bank has resisted the possibility of a default, but comments on Tuesday from Austria's central bank governor, Ewald Nowotny, that a solution could involve a 'selective default' was the first sign of a crack in the central bank's hard line.

Nowotny later said that he was in complete agreement with ECB President Jean-Claude Trichet on Greece.

RAISE THE CEILING

Strength in the euro pushed the dollar, considered a safer bet during times of uncertainty, lower against several major currencies.

Against the yen it slipped 0.1 percent to 79, while sterling rose 0.5 percent against the dollar to $1.6126 and the Australian dollar gained 0.7 percent to $1.0683.

Euro gains were the primary driver of a weaker dollar, but analysts said the US currency has also been stung by worries about US fiscal problems. Investors fret that Washington will hit a stalemate over raising the government's $14.3 trillion borrowing limit in the very near future.

"Euro/dollar is trapped between the euro zone debt crisis on one side and questions surrounding the US debt ceiling on the other, and the market doesn't want to take on any major positions," said You-Na Park, currency strategist at Commerzbank in Frankfurt.

Despite the June increase in housing starts, they are still less than a third of their peak during the housing boom.

But demand for rentals, as Americans shun homeownership because of plummeting home prices, may be helping demand for permits for future construction.

"In the grand scheme of things, it's nice to see it jump higher, but it doesn't take us out of the range we've been in," said David Mann, senior currency strategist at Standard Chartered in New York. "So there's still an extremely long way to go before we can be sure there's a serious recovery underway."

Copyright Reuters, 2011