Russia heads to Europe in recession, and the euro is below parity
Schedule euro/dollar intervals of 1 day
The European economy is leaning towards a recession, traders are increasingly risking that parity between the euro and the dollar is inevitable.
Shorting the euro is one of the most popular trades in the market, and strategies from Nomura International Plc to HSBC Bank Plc have warned clients that more losses are ahead. According to Bloomberg’s options pricing model, the implied probability that the currency is at parity against the dollar in the following month is about 50%.
The euro is at a 20-year low, and investors are reflecting in the currency’s price the possibility that Russia could limit gas supplies to Europe and push the region into recession. The economic shock will make it difficult for the European Central Bank to tighten monetary policy and likely widen the spread in interest rates with the US. The single currency fell further into the environment, trading at $1.0187.
“It’s all about Russia,” said Caspar Hense, senior portfolio manager at BlueBay Asset Management. “If we see gas rationing in Europe due to a reduction in supply from Russia, we will see a decrease in the recession in Europe. Winter can be very long.”
Hens said BlueBay has been selling euros since last month. The common currency is expected to fall to 90 cents against the dollar if Russia suspends supplies, although this is not their base case.
German officials are expressing concern that a key pipeline that essentially consumes gas in Europe may not return to full capacity after scheduled repairs this month. The International Energy Agency has warned that full consumption of the flows “cannot be expected” given Russia’s “unpredictable behavior”.
Tim Brooks, head of currency options trading at market maker Optiver, expects more volatility if the euro breaks parity against the dollar. Demand for options on the fall of the euro to its lower values is observed to be around 0.92 to 1 against the dollar. Nomura International Plc strategist Jordan Rochester wrote on Tuesday that he is even more convinced that the euro will fall to 0.98 by August.
“The euro remains virtually worthless to buy this summer,” said Keith Jax, chief currency strategist at Societe Generale. “Europe’s energy dependence on Russia, but not fast enough to avoid a recession if the pipeline is shut down. If this happens, EUR/USD will likely lose another 10% or so.”
Wang Luu, Head of FX and Fixed Income Strategy at Russell Investments.
“This is absolutely a storm for the euro at the moment,” said Luu, who contains the short concept. However, the currency is already at a weak level and there is a good chance it could strengthen next year, he added.
“I would not chase this trend,” he said. “At the moment, I wouldn’t add to the euro shorts.”
For several months, the euro has been tentatively predicted to believe that interest rates in that eurozone will lag behind aggressive tightening in the United States of America. Traders also expect the general tightening of monetary policy to decrease due to the region’s weak economy.
Comparison of the policies of the ECB and the Fed
The European Central Bank is expected to raise rates by 25 basis points later this month, the first increase in a decade. Markets are valued at a total of 125 basis points this year.
The Fed has already raised rates by 150 basis points. Tightening by another 150 basis points is expected this year.
“Large capital has flown to the United States. And unless there is something seductive, the dollar may stay,” said Andy Bloomfield, head of macroeconomic research at Record Currency Management. “For capital to go abroad (US) again, you need to see better prospects in Europe and elsewhere.”
According to Bloomberg
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