EUR/USD to remain rangy over short to medium term - Natixis

Having appreciated sharply since mid-April, the EUR/USD has gone on to stabilise around 1.12 since mid-May as the pair’s rebound results from both the weakness of the US dollar and from the firmness of the euro explains Nordine NAAM, Research Analyst at Natixis.

Key Quotes

“As regards the euro, the macroeconomic news flows has improved, with GDP growth of 0.6% in Q1 2016, while monthly indicators have remained upbeat in Q2 2017. The French political risk has been extinguished by Emmanuel Macron’s victory, while the euro appears to be surfing on a wave, carried by the prospect of greater European integration in the face of US isolationism and the British exit. This greater integration has been welcomed by the markets, fuelling capital inflows into European equities.”

“In this buoyant environment, the European Central Bank (ECB) has treaded very gingerly in the normalisation of its monetary policy. The central bank wants to prepare the markets for a scaling back of asset purchases in 2018, but avoid bringing upward pressure to bear on long interest rates. Mario Draghi has achieved this by highlighting notably the weak inflation (1.5% in 2017 and 1.3% in 2018, well below the central bank’s official target).”

“In this context, short euro positions held by speculative accounts have been squared, fuelling the rapid rebound of the EUR/USD. Of late, speculative accounts have turned long on the euro, positions now reaching historically high levels. The Bloomberg consensus has be revised upwards gradually in reaction to developments in the US (Trump, Federal Reserve) and Europe (weak inflation, Macron effect, European integration). The Bloomberg consensus for the EUR/USD has thus risen from 1.06 at the start of May to 1.12 at the start of June.”

“The EUR/USD’s upside potential will be limited in the short to medium term. The euro is overbought, as indicated by the historically high long euro positions held by the speculative accounts, and is no longer in line with the spread between the 10-year TNote and Bund. It is possible, however, that the prospect of an acceleration in European integration after Emmanuel Macron’s victory will continue to drive the EUR/USD’s appreciation.”

“In particular, the pair could appreciate temporarily after the German elections in September, as this could breathe new life into the Franco-German tandem. But the prospect of a further hike in the Fed Funds rate in September (not priced in as yet) should contribute to a relative stabilisation of the EUR/USD around 1.12. As for the announcement of the recalibration of the ECB’s QE in September, it is largely integrated into the EUR/USD. In such an environment, 1-year implied volatility will remain very low.”