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 Why won't the Euro Fall?

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painofhell



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PostSubject: Why won't the Euro Fall?   Tue Oct 20, 2015 12:41 pm

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Selling EURUSD was supposed to be the trade of 2014. However, after a quick bout of selling that brought EURUSD under the key 1.3550 level the pair didn't push below 1.3500 before bouncing back up to 1.3700. However, it's important to see that the big picture that many traders and banks were expecting to develop that would bring the Euro down simply hasn't come to fruition. 

What's Changed In The Eurozone? 

As 2013 was coming to a close, many high level people involved with the currency market like strategists and banks believed EURUSD which was trading in the 1.35-1.38 zone to end the year was making one last push to 1.40 before dropping heavily.  That hasn't come to pass and in fact, EURUSD has stubbornly stayed above the trendline from the July 10th low and the higher low in early November.



The reason that EURUSD has not been able to catch momentum to the downside and that no large institutions are all in on a EURUSD short is because the ECB has decidedly changed their tone about the future of Eurozone inflation. 

Why is Inflation Important in the Eurozone? 

The European Central Bank or ECB is a single mandate central bank meaning they are using inflation as the key gage for strength of their economy. The single mandate that the ECB focuses on is inflation. The most common economic indicator for reading inflation is the Consumer Price Index or CPI. Many central banks like the Federal Reserve have a dual mandate of inflation and employment so both CPI and readings on employment are important for them but for the ECB, CPI is the key metric.

In late October, a shock CPI reading came out of Europe with a reading of 0.8% whereas the ECB has been targeting 2%.  This large miss was seen by many as a clear indication that the ECB would have another, "whatever it takes" moment which Draghi announced in June 2012 that he would take any measure necessary to lessen the stress on the financial system in Europe which brought a key turnaround for the future of the European economy after many months of a free fall in price.

The consesus was that this weak CPI reading would likely cause the ECB to weaken the Euro to stoke inflation. 

The Resiliency of the Euro

However, the ECB has failed to act and at the same time the Euro has been well supported.  To understand why the Euro is not only falling, let's look at a few developments since the big drop in late October which was not only recovered but 2013 ended with a higher push in the pair. 

Firstly, Draghi (the head of the ECB) has mentioned in no uncertain terms that he's beginning to see an economic recovery in the Eurozone which means that the drastic action that many were counting on to bring the Euro down has not developed. The clear point of this as a trader is that it's best to wait for other factors to align before the currency moves big before you take a trade. 

Secondly, the bond markets of many European nations are continuing to see good demand. This is not only in the core countries of the Eurozone but also in the peripheral economies like the Spanish bond market. This is a key sign that a resumption of the Euro Debt Crisis is likely all but gone. 

Thirdly, other economic indicators are supporting signs that the Eurozone may not be out of the woods yet but economies and consumer expectations are beginning to firm.  Some of the data out of the core countries like France & Germany's purchasing managers index, a key indicator measuring 5 factors in business development, show expansion meaning that it's unlikely that the ECB will act to weaken the Euro anytime soon. 

In Closing

The ECB was seen as the catalyst to the Euro's fall in 2014 off the back of a historically weak CPI in late October 2013 but they've communicated in the first weeks of the year that action may be premature. The view that action to weaken the Euro is premature is off of improred Eurozone data, a well supported bond market and inflation readings not getting worse.  However, if CPI prints begin to take another ugly leg down then the discussion may begin anew about the Euro going into free fall mode. If CPI doesn't drop further, then it is likely that the Euro won't either. 

Happy Trading!

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