Fundamental Forecast for Euro:Â Bearish
-Â EUR/USD, like other USD-pairs, has disconnected from many fundamental drivers like the Fed.
– EUR/USD strength wasn’t helped by domestic Euro drivers last week either.
-Â Given the upcoming economic calendar, there is only one reasonable conclusion: markets have become increasingly concerned with the outcome of the US Presidential elections on Tuesday.
The Euro, on the whole, had a rather unexciting week: EUR/GBP traded slightly lower on the back of some positive developments along the Brexit front; and EUR/CAD traded somewhat higher on the back of ongoing weakness in energy markets. Yet the most interesting pair of the past week has been EUR/USD, which has been seemingly untethered from any of its longstanding thematic influences: speculation around the European Central Bank’s QE program; or speculation around the timing of the Federal Reserve’s next rate hike. It’s fairly obvious what the reason for the disconnect in EUR/USD has been due to recently, but we’re going to arrive at the conclusion deductively to prove our point.
On the Euro side of the equation, economic and market developments did not suggest an improved fundamental backdrop that would necessarily entice traders into increasing their Euro-specific exposure. Medium-term inflation expectations, as measured by the 5-year, 5-year inflation swap forwards, fell to 1.456% on November 4 from 1.477% a week earlier. Generally, data released the past few days disappointed, with the Citi Economic Surprise Index for the Euro-Zone declining from +43.5 on October 28 to +36.2 on November 4.
If we can deduce that that there are no recent positive Euro-specific drivers in the near-term related to the overarching theme of the ECB’s easing, then we must examine the US Dollar side. Given the big picture for the US Dollar – when will the Federal Reserve hike rates next – our inclination is to turn to rates markets to see if pricing has shifted. No such evidence exists. Fed funds futures priced in a 78% chance of a 25-bps rate hike in December by the end of last week, up slightly over the prior five days.
