Draghi’s uncertainty weighs on the euro

The euro closed last week under heavy pressure against the dollar after ECB President, Mario Draghi, claimed that recent economic data warranted caution. According to Draghi, the committee did not discuss monetary policy during its meeting last week, but instead focused recent economic data. He acknowledged that while a number of recent data points suggest growth may have slowed in recent months, the Governing Council still sees the broad-based recovery continuing.


On the whole, the message was relatively consistent with previous communique and thus the magnitude of the market reaction was a little surprising. We see three key influences which help explain the move:


Positioning – It’s a factor we’ve been highlighting for months, but given the extreme positioning in EURUSD, the pair is at risk of a sharp move lower if the speculative market begins to lose faith in the long EURUSD trade. Looking at the chart below, the latest data shows positioning still close to record levels so while some of these positions may well have been unwound in the past week (remember there is a week’s lag in the data) the likelihood is that there are still a number of nervous traders feeling the pain of being sat on long positions.   


EUR speculative positioning

Source – Bloomberg


Uncertainty – Although Draghi claimed that the ECB still sees the broad-based recovery continuing, the market remains unconvinced. He acknowledged that “it’s quite clear since our last meeting, broadly all countries experienced, in different extent of course, some moderation in growth or some loss of momentum.” Looking ahead, we may have to wait beyond the next meeting in June for additional guidance on the timing of the committee’s next move. A rate hike from the ECB was always unlikely in the next 12 months, but using the OIS curve, the probability of a hike by October 2019 has fallen from 45% to 30% during the past week. 



Underlying USD strength – Dollar weakness which presided throughout 2017 and the first quarter of 2018 finally looks to be coming to an end. With the Fed expected to continue raising rates this year, the gap between US rates and that of other major economies looks set to widen further. In turn, this should offer continued renewed support for the dollar as investors continue their search for yield.



Bank of England

Friday’s news that the UK economy grew by a measly 0.1% in the first quarter of 2018 suggested that Bank of England Governor Mark Carney could follow in Draghi’s footsteps and be forced to maintain an accommodative stance on monetary policy. It follows an unexpected drop in headline inflation which suggests that there is no pressure on the MPC to raise rates any time soon. Three weeks ago, the market was pricing in a 95% chance of a 25 basis point hike in May. That has now fallen to just 20% and a hike is no longer expected until August or September.


Unsurprisingly, sterling continued its recent slide against the dollar following the release of the news, falling below $1.38 for the first time since early March.


Validus Forecasts

Looking forward, we continue to see scope for further US dollar strength against sterling, the euro and the Canadian dollar. This is reflected in our forecasts shown on each of the currency sheets on pages 3 – 6 of this report.




Author: Marc Cogliatti


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