Fundamental Forecast for Euro: Bearish

- Consistent policy hawk Axel Weber says current rates are ‘appropriate’ and positive growth could be protracted
- Risk appetite weighs on the dollar and invariably bolsters EURUSD
- Momentum must be called into question with EURUSD extending yet another leg of its six-month advance

There are two general assessments of the euro: the strength of the currency of its own accord; and how it is performing against the benchmark dollar. This past week, the euro was actually depreciating against most of its liquid counterparts; yet the market was largely focused on EURUSD – and for good reason. The most liquid currency pair in the market, enjoyed another burst of momentum this past week easily clear 1.45 and set a new high for the year in the process. To discern whether this trend will continue or collapse through the immediate future, we need to discern the fundamental drivers behind the pair and individual currencies. And, it is important to note that these are two separate concerns. There are certainly a range of scheduled economic releases to take account of and the media is keen on attributing each fluctuation on readily available long-term fundamental concerns; but to develop a real sense of the current trend, we need only look to risk appetite.

When we think of currency pairs with a specific connection to investor sentiment, EURUSD rarely comes to mind. It is true that there are pairs with a far greater sensitivity to risk trend due to economic disparity, interest rates potential or other popular measures (like NZDJPY or AUDUSD); but this pair nonetheless retains a clear link to the underlying current. Being the most liquid pair in the market has its advantages. When demand for yield is on the rise, capital is drawn away from the US (which built up through the panic of the past financial crisis in the search of a safe haven) and reinvested elsewhere. Still cautious, investors will not seek out emerging markets or other high return / high risk options but rather a stable investment with a greater potential for return. Naturally, the ECB’s yield advantage, the hawkish lean of its monetary policy authority and the fact that its largest member economies actually grew through the second quarter are all favorable qualities. In turn, EURUSD’s trends follow the bearing on risk; but it manages to filter out a lot of the volatility that is common to some of the yen crosses and other highly active pairs.

Defining the relationship between currency pair and broader market is easy. Trying to speculate on the pace and direction of market sentiment is far more complicated. Looking at the collective influence of the economic calendar; there are few pieces of scheduled event risk that can single-handedly sway broader risk appetite to accelerate or reverse. However, with fundamental forecasts muted and interest in the steady advance cooling; it seems a matter of ‘when’ rather than ‘if’ speculative trends capitulate to solid economic potential.

The all-consumer, elemental trend will no doubt define direction over the coming weeks and months; but that isn’t the only concern for the fundamentally inclined. Event risk traders will have a dearth of indicators to wring volatility from. There are a few general themes to be found in the data scheduled for release over the coming week. Rate watchers will monitor consumer-level inflation data as a recovery from the headline, year-over-year reading could revive the ECB’s hawkish conviction after the authority poured water over speculation of imminent hikes by suggesting they would support growth (no doubt with G20 influence factoring in). The German and Euro Zone ZEW investor sentiment surveys are essentially forecasts from one of the most vested and reactive groups in the economy. A steady improvement is expected here; but where they find this boost is what will really be interesting. Other readings (including Euro Zone industrial production, trade and construction activity) will factor in on the long-term growth outlook; but likely come up short for volatility.

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