A Euro update ahead of the ECB meeting

As we are in the middle of a market turmoil, with equities down 10 to 15 percent since the beginning of the year, we thought that a quick update on the Euro (and where it is going) could do it. With Eurostoxx index down 12% and peripheral sovereign and financial risk spiking (Banca Monte Paschi di Siena down 60%, trading at 51 cents), markets’ participants are questioning themselves ‘what more could the ECB do?’ Currently on a €60bn bond-purchases program (which duration was extended to March 2017) combined with a NIRP policy (deposit rate at -0.3%), there is not much that Draghi could offer to the market in order to depreciate the single currency to lower levels (parity?) and stabilize the market.

Since the Euro’s recovery when Draghi’s credibility was threatened at the December’s meeting (no increase in the asset purchase programme), EURUSD has been trading sideways over the past 6 weeks within a 350-pip range (1.07 – 1.1050). It looks like the single currency is struggling to break trough the 1.10 strong resistance, and We believe that a lot of bears are waiting to go short around that area. However, we would be cautious on a new disappointing news coming from the ECB that could potentially send EURUSD to new highs. Unless the Governing Council reveals a new plan to stabilize the Euro Zone economy and its stagnating inflation rate (+0.2% in December), there are no main reasons why the Euro should decline drastically tomorrow. One chart that we like to watch when volatility spikes is EURUSD and its correlation with the VIX index. As you can see it on the chart below, the 10-day correlation has moved from 0 to 74% over the past two weeks, with the VIX index trading slightly below 30. We think it could be interesting to watch the overnight session and its impact on tomorrow’s trading session, as we know that the single currency can act as a safe haven asset in periods of high volatility (and low liquidity). The last time was on August 24th as we wrote it in our article EURUSD and VIX last September.

EURVIX

(Source: Bloomberg)

Euro Zone under pressure

 After a contraction of -0.1% in Q1, Italy reported unexpectedly a 0.2% contraction (first estimates) in the second quarter (vs. consensus of +0.2%). The 10-year yield is now trading at 2.78%, 10bps higher than last week’s low of

It seems that the European Recovery is already over…

Eurostoxx under pressure
Watch the second lower trend line on Eurostoxx 50 as European banks will remain under pressure in the weeks ahead with investors still fearing further write-offs. As you can see it on the chart below, the next support on the downside stands at 3,000, which could lead to a further correction if it breaks it.

ES50

(Source: Reuters)

As you know, European banks are still in the middle of an AQR – Asset quality review – with the results to be unveiled in late October, slightly before the ECB takes over as the EZ official banking regulator on November 4. Some of the people refer the AQR as a form of stress test, and the question investors are asking themselves is if this ‘stress test’ will be effective.

 However, remember smth: back in 2011, a similar exercise was done by EBA (European Banking Authority). Dexia passed the test and then had to be bailed out three months later…

EURUSD remains also under pressure and is now trading slightly below the 50% Fibo retracement (1.2750 – 1.4000). Next support on the downside stands at 1.3300.

EURUSD

(Source: Reuters)