4 Reasons Why EURO Should Fall to 1.16

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4 Reasons Why EURO Should Fall to 1.16

Euro is overdue for a correction. For the past 2 weeks, it quietly traded higher before consolidating within a narrow range versus the US dollar. Throughout this time, there’s been bad news for both Europe and the US but Europe’s troubles are deteriorating quickly. There are no shortages of reasons for why EUR/USD should be trading closer to 1.16 than 1.18 but here are the 4 most important:

1. Second Virus Wave Spreading Across Europe

New coronavirus cases are exploding in Europe raising concerns that the region could return to the tough times experienced at the start of the year. Daily infections hit a record high of 18,746 on Wednesday in France and are hovering near 10,000 a day in Spain. To put this into perspective, back in March cases in France peaked at 7,578 and in Spain, 9,159. Only 4 countries in Europe are below the critical 20 cases per 100,000 threshold set by the European Centre for Disease Prevention and Control. The second wave is spreading across Europe with Germany reporting more than 4,000 cases over a 24 hour period. In Italy, new cases hit 3,678 the highest in 5 months. Countries across Europe are imposing new restrictions. Paris is at its highest alert level. Spain instituted an earlier closing time for restaurants and limited travel in and out of cities. Germany announced a curfew and restrictions on gatherings. Italy made masks mandatory outdoors across the country, Belgium closed bars and restaurants for a month, while Ireland’s health department recommended placing the whole country on the highest level of restrictions.

2. Partial Lockdowns Could Mean Double Dip Recession

These partial lockdowns will kill the Eurozone’s recovery. During the summer, economists predicted a second half recovery for the region and now, it will be lucky if they can escape a double dip recession. We are just beginning to see deterioration in Eurozone data but next month when the October numbers are released, we’ll learn just how damaging these new restrictions were for the economies. In the second quarter, Eurozone GDP contracted -11.8%. We may not see double digit declines this time around since governments are trying to avoid full lockdowns, but there’s a very good chance of a contraction in the fourth quarter. The impact on euro could be significant because back in March, the single currency dropped from a high of 1.15 to a low of 1.0637 in a matter of weeks. There was also tremendous volatility as investors took stock of the damage to the economy.

3. More ECB Easing

Unless Eurozone nations suddenly get these outbreaks under control it is widely believed that the European Central Bank will need to increase its Pandemic Emergency Purchase Program at the end of the year. On the basis of inflation alone, which hit a record low in September, more easing is needed to meet their mandate. However now that the second half recovery is at risk, the central bank will have no choice but to provide additional support to the economy. An interest rate cut is also on the table but its seen as less effective than expanding or extending PEPP. ECB President Lagarde confirmed this week they are ready to inject fresh stimulus after describing the recovery as “a little bit more shaky” and saying they are “prepared to use all the tools that will produce the most effective, efficient and proportionate outcome.”

4. US Election Uncertainty

Lastly, the extraordinary performance of US stocks and the remarkable speed of President’s recovery from the coronavirus should also create demand for US dollars but it is US election uncertainty that could drive investors out of euros. Risk appetite and the rally in stocks are the only reasons why euro refuses to fall. Every positive US stimulus headline lifted the currency but as the election nears, so does the uncertainty. That could lead to broad based profit taking at which point euro could suffer greatly.

Kathy Lien
Managing Director

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