On January 11, 2018, the European Central Bank (“ECB”) released its December monetary policy meeting minutes. They were more hawkish than expected, which gave EURUSD a boost. EURUSD rose from that point through February 1, 2018 – ie basically until the US equity market rout commenced on February 5, 2018 (see chart below, shaded area).
At its March 8 monetary policy meeting, the ECB dropped its forward guidance, which pledged to increase quantitative easing (“QE”) if necessary. This was a hawkish move. However, ECB President Mario Draghi was careful to temper hawkish expectations and had a dovish tone during the press conference. The overall effect weighed on EURUSD (see chart below).
At the March 8 press conference, Draghi expressed concerns about measuring the output gap. He stated, about the Governing Council discussion, that: “There was a somewhat repeated reference to the uncertainty surrounding potential output growth path.” Draghi also expressed concern about subdued underlying inflation saying, “Even though we have strong growth, we still have subdued inflation and our mandate is in terms of price stability, so victory cannot be declared yet.”
Finally, when asked about the US Administration’s planned tariffs, Draghi rather pointedly stated, “If you put tariffs against what are you allies, one wonders who the enemies are…We are convinced that disputes should be discussed and resolved in a multilateral framework and unilateral decisions are dangerous.” He went on to say that trade wars, should they occur, can have a negative impact on confidence, which can in turn can negatively impact output and inflation.
More recently, there has been some verbal intervention directed at the Euro. Speaking March 14 on monetary policy, Draghi noted, “The euro has appreciated since the beginning of last year, and according to our analysis, this has recently been driven more by exogenous factors – that is, purchases of euros that cannot be explained solely by the economic expansion.” EURUSD was lower on the day post those comments.
Chart EURUSD on March 14, 2018
Turning to USD, it’s near-term recent strength is vulnerable due to potential headline risk from possible further trade tariff announcements. Fed rate hikes have been priced in for awhile, so this aspect does not lend new support to the USD. There is some risk that at the March FOMC meeting, another rate hike could be added to the “dot plot”, which would be USD supportive, but only temporarily.
What does all of this mean for EURUSD strategy? EURUSD has been ranging lately between 1.2450 and 1.2150. The risk factors discussed above, however, complicate a near-term EURUSD position. Therefore, it is better to take a look at EUR strategy on a cross-currency basis (ie not vs. USD).
Here, it is worth considering long EURAUD and EURNZD positions. Even though the ECB has sought to temper hawkish expectations, it is in the early stages of its monetary policy normalization which should support the euro on a cross-currency basis against AUD and NZD. AUD and NZD are high-beta currencies, which are generally under pressure in risk-off environments. As a result, they are vulnerable in this period of jittery US equity markets. In addition, if the FOMC does add an additional rate hike to its forecast at the March FOMC meeting, this will likely weigh on US equity indices and benefit the short AUD and NZD positions.
Both crosses are a bit rangy at the moment: EURAUD between 1.6000 and 1.5600 and EURNZD between 1.7200 and 1.6800. It could take a further down move in US equities to push these crosses higher in favor of EUR. It is worth monitoring the risk-off US equities situation and consider trying to pick up those crosses (ie go long) towards the bottom of their respective ranges.