When will the euro rally end?
The euro rallied again overnight after the ECB exceeded expectations with significant expansions to its PEPP program. But after such a strong rally, the big question is when EURUSD rolls over again.
The euro’s been boosted over the past week and a half not only by economies reopening and USD weakness, but also as the EU looks more united on a fiscal recovery and now a heavier response from the European Central Bank (ECB).
Markets were expecting an increase to the €750bn Pandemic Emergency Purchasing Program (PEPP) of about €500bn. The ECB surprised at yesterday’s meeting, expanding the program by a massive €600bn to a total of €1.35tn. It’s a staggering amount, and at current purchase rates of about €100bn per month, extends the program until June 2021.
Usually quantitative easing (QE) measures are currency negative, as large-scale asset purchases increase the currency supply available to markets. In this case though, the ECB looks to be ahead of the curve and ready to support the euro area with whatever it takes, so markets have responded favourably.
The big question is where to next for the euro, and does it roll over soon?
An immediate concern for me is that the significant ECB action could hurt progress on the EU recovery fund. The more the ECB acts, the more EU nations can sit back and resist debt mutualization. Yesterday I mentioned the “frugal four” that have opposed the idea of EU recovery grants instead of loans. Well, Finland has since joined the club with its own objections to the recovery fund.
Relative USD weakness is also key to watch here. We’re watching today’s nonfarm payroll number and US unemployment rate to consider the USD’s next move. Unemployment for May is expected to print at 19.8% tonight, up from 14.7% in April, while nonfarm payroll figures are expected to reveal more than 8million job losses in April. Any surprises of a stronger than expected labour market here could encourage US stocks to rally further and could help the USD recover some of its lost ground. A stronger USD probably means a weaker euro, and EURUSD might finally roll over. Of course, the data could also be worse than expected and weaken the USD further. It's absolutely one to watch - and you can monitor it with our economic calendar.
EURUSD on eight-day rally ahead of ECB meeting
The euro has sprinted out of its multi-week range as risk assets fly and the USD unwinds, with a huge move yesterday as EURUSD broke and closed above the 1.12 handle, trading to levels not seen since mid-March. Markets are expecting more good news from the ECB today (21:45 AEST), and considering that central banks have been a major player in the risk-on mood, the meeting poses event risk.
The euro has been rallying for over a week now on a falling US dollar but also improved sentiment in Europe. European economies are beginning to reopen, and the EU is looking more united in its fiscal response to the pandemic.
The euro had been subdued for weeks while EU nations clashed over how to support economies ravaged by the virus. Since French President Macron warned the EU faced collapse over the divisions, markets have received some hopeful signs. Germany and France proposed a joint recovery fund mid-May, and overnight the German coalition agreed to an additional €146bn stimulus package.
Event risk: ECB meeting
Markets are expecting more good news from today’s ECB meeting. The policy in focus is the €750bn Pandemic Emergency Purchasing Program (PEPP), and the expectation is for a €500bn increase at today’s meeting, increasing the limits of the pandemic QE bond-buying program. Sure QE is often a currency-negative, but right now the more support for EU economies, the better the risk sentiment.
But is the €500bn increase too optimistic? At the last meeting, the ECB hinted the fund would be increased at this meeting, but it’s unclear the central bank needs so much headroom just yet considering it’s only €200bn or so through the €750bn fund. The ECB has already made it clear it shouldn’t be the first responder here, applauding EU nations for fiscal measures.
A concern I have here is that an increase to the fund just yet could hinder progress on the EU recovery fund. The “frugal four” - that’s Austria, Denmark, the Netherlands, and Sweden - remain opposed to debt mutualization, and more QE could reduce their responsibility to act.
However the meeting plays out, the euro looks bullish. Markets are expecting more support from the ECB at the same time more fiscal plans come through, economies reopen, and the USD unwinds. It feels right now that any pullbacks in EURUSD will be seen as buying opportunities.
Do consider your exposure heading into the meeting.
AUD continues its rally, USD sells off
Risk FX is flying and we saw the Australian dollar close 2% higher on the day yesterday. AUDUSD advanced from its Monday open at 0.6655 to hit the 0.6800 handle just after rollover this morning, a level not seen since January.
AUDUSD opened firmly on its 200-day MA yesterday and charged above 68 US cents per Australian dollar this morning. The sharp gains in high beta currencies like the AUD come as the world sees a US dollar outflow as global economies reopen - the USD weakness exaggerated by unrest in the US.
Although the AUD is not in the basket of currencies that measures the US dollar index, the USDX also opened yesterday near its 200-day MA and was offered lower from there.
The RBA meet at 14:30 AEST today - will they talk about negative rates? The central bank has been fairly upbeat recently, pushing back against negative rates, and not making any bond purchases in almost four weeks. Governor Lowe has recently pointed to the possibility of a smaller economic downturn than previously expected. Yet there’s a growing conversation that the RBA could implement negative rates within the next 12 months. If the RBA leave the possibility on the table today, that’s modestly AUD-negative.
But the AUD (black line) continues to move in the same direction as the S&P 500 (blue line), both reflecting the increasing risk appetite despite a poor global economic outlook.
S&P 500 (US500) futures slipped this morning as President Trump announced the military will be deployed if states cannot quell protests, and the Aussie dollar followed. But if equity markets can largely shrug off a pandemic, national lockdowns, and a record spike in unemployment, this AUD rally might have legs yet.