Euro Collapsing: Overextended or Justified?

The euro’s had a tough time of it recently. Since the 23rd of February the euro has fallen against every major currency. Over the course of the following seven trading days, these are the high to low swings:

• EURUSD: - 301 pips (-2.65%)
• EURGBP: -129 pips (-1.53%)
• EURJPY: -341 pips (-2.61%)
• EURCHF: -302 pips (-2.90%)
• EURAUD: -543 pips (-3.46%)
• EURCAD: -501 pips (-3.46%)

The huge rally in global commodities meant that the EUR moves against commodity currencies such as AUD & CAD have been especially large.

The commentary surrounding the eurozone economy has become extremely bearish too. Low wage growth, high inflation, high energy costs, proximity to conflict and a sanctioned economy & trading partner.

The dreaded ‘stagflation’ has become the new buzzword. And it’s hard to argue against it. Eurozone wage growth simply isn’t keeping pace with headline inflation, and the prospect of increasing energy costs could definitely squeeze consumer and corporate margins, weighing down on overall economic activity.

This initially led traders to ease back on their ECB rate hike bets, before pricing hikes back in today. At the time of writing, eurozone money markets are pricing a 95% chance of 30 bps of ECB rate hikes by December, compared to 20 bps of rate hikes on Wednesday.

All sounds pretty bad for Europe of course, but some will caution against chasing further euro weakness from here. Markets are forward-looking, and it’s been one way traffic so far, especially in EURAUD. It’s fair to ask how much negativity is already in the price.

Let’s look at the chart:

Of the past 19 trading days, only two have ended in the green. The past 11 days have all closed in the red… Traders will be eyeing this and wondering if the market’s potentially over-stretched here. Others will caution that you should never catch a falling knife… But who knows?

It’s a similar story in EURCAD, although slightly less extreme:

Hindsight’s a wonderful thing but the early February move into resistance and the 200 day moving average turned out to be a fantastic signal.

From a fundamental perspective, the Canadian dollar may find further support from higher oil prices, and a central bank that began their hiking cycle with a hawkish tilt yesterday.

The Bank of Canada hiked by 25bps and commented that:

“Inflation is now expected to be higher in the near term than projected in January. Persistently elevated inflation is increasing the risk that longer-run inflation expectations could drift upwards.

“The Bank will use its monetary policy tools to return inflation to the 2% target and keep inflation expectations well-anchored.”

"Growth is now looking more solid than previously projected"

“As the economy continues to expand and inflation pressures remain elevated, the Governing Council expects interest rates will need to rise further.”

The ECB will next meet on the 10th of March, and staff have a mammoth communication task on their hands. There’s an awful lot of risks for the central bank to balance right now, and they’ll need to hit the right notes.

Not investment advice. Past performance does not guarantee or predict future performance.