The euro eased on Tuesday, hurt by Standard & Poor's warning that it may carry out a credit downgrade of euro zone countries en masse if their leaders fail to move decisively on solving the region's debt woes at a summit this week.
Given most investors are already running bearish positions on the euro, however, the risk of a sharp sell-off in the single currency was limited.
The unprecedented warning to downgrade 15 countries including top-rated heavyweights such as Germany and France came as France and Germany announced an initiative, to be discussed at the Friday summit, to impose budget discipline across the euro zone through treaty changes.
Analysts say the credit warning has put EU leaders under additional pressure to produce quick results to stabilise markets and regain confidence.
If core euro zone nations are downgraded, the European rescue fund will find it tough to attract investor interest in its bond offerings, they say.
The euro was down 0.2 percent at $1.3375 with stops cited below $1.3330. Trendline support from its Nov. 25 low of $1.3210 lies at around $1.3330 and a break below that level could see the euro test the recent November trough.
"S&P has told us what we already knew," said Sebastien Galy, FX strategist at Societe Generale. "Most investors are anyways bearish on the euro. Nevertheless, these are good levels for investors to initiate fresh short positions."
The euro rose against the Swiss franc after data showed growing risk of deflation in Switzerland and adding to speculation the Swiss National Bank could intervene and raise the floor on the euro/Swiss franc pair from 1.20 francs.
The single currency hit a high of 1.24087 francs on trading platform EBS, while the dollar rose around 1 percent to a high of 0.92990.
The euro received some support on Monday on growing expectations of an agreement at the EU summit this week, along with deficit-reduction steps by debt-laden countries. That is expected to pave the way for the ECB to move more aggressively to calm the turbulent euro zone bond market.
The bank has so far been reluctant to buy up bonds of heavily indebted states, concerned this would take the pressure off them to sort out their finances, but signalled it may change its stance, depending on what EU policymakers come up with.
Still, any bounce is likely to be limited to short-covering, and levels around $1.3550 should see gains capped. Traders said positioning is also likely to be light, heading into a ECB rate decision on Thursday.
AUSSIE DOWN AFTER RATE CUT
Risk currencies came under further pressure after the Reserve Bank of Australia cut rates by 25 basis points and left the door open for further easing, sending the Australian dollar down to $1.0156, from a peak of $1.0305 hit overnight. Traders cited stops below $1.0150.
"It's a good decision and it recognises the slowdown in the global economy has developed some further momentum, particularly in our region," said Paul Brennan, head of market economics at Citi at Sydney.
Against the yen, the Aussie fell nearly 0.8 percent to 79.20 yen.
With the euro's downside limited, the dollar index did not make much headway. It rose 0.2 percent to 78.706. Against the yen, the greenback was flat at 77.76, but, as during the last couple of sessions, struggled to break above the 78.00 yen barrier.
read more: Olympus Wealth Management
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