We have now updated our thoughts on EUR for the 2nd half of the year. These are below:
The danger to the euro in the 2nd half of the year is an overreaction. Mario Draghi stated in June that the global recovery is firming and broadening (which it is), that deflationary forces have been replaced by reflationary ones (they have) but that policy should still remain accommodative, with persistence and prudence.
While we remain bulls on the single currency on the basis of a stronger economic data and an eventual tapering of QE and interest rates we think that the market may have read too much immediacy into Draghi’s comments in the short term. We remain long term bulls on the single currency on the basis of a stronger economic data and an eventual tapering of QE and interest rates. ECB officials noted hours after Draghi’s comments that “what was perceived as hawkish was really meant to strike a balance between recognizing the currency bloc’s economic strength and warning that monetary support is still needed.”
The euro weakened in the aftermath but will remain close to these elevated levels as we believe that while a tapering of stimulus may begin by the end of the year the stimulus program may actually be extended further i.e. more stimulus but at a slower rate.
The main story of the Eurozone coming into 2017 was one of political risk and that vanished pretty quickly following relatively benign outcomes in the Dutch and French elections. There would have to be a rather amazing change in voting prospects to see Angela Merkel unseated and while the prospect of Italian elections by the end of the year are a marginal risk, a risk it remains.
Similarly the Brexit negotiations are a risk that will likely present as an opportunity for the single currency; Brexit has not driven a wedge through the heart of Europe but has largely drawn the continent together.
These predictions outline the high, low, median and mean expectations for the above currency pair as found by a Bloomberg survey of banks and brokers and should only be used for illustrative purposes. Source: Bloomberg
Conclusion: Appreciation looks likely especially against the pound
Politics, politics, politics; 2017 will be one of the most political years In Europe in living memory. The pressure points are Italy, the Netherlands, France and Germany.
Italian PM Matteo Renzi tied his future to winning the Italian constitutional referendum and lost so we have another political air pocket at the top of a European government. In the main, his loss points to an inability within Rome to adequately enact reforms capable of driving growth, reducing a huge debt pile or recapitalising banks.
Italy was and remains the ‘I’ in the ‘PIGS’ acronym that defined the Eurozone countries that were pressured on their debt piles through the Global Financial Crisis and the situation has not improved despite low interest rates and an accommodative central bank.
We anticipate an election in 2017.
It is France and the Netherlands however as to where people are looking for a populist win in an election that may mirror what Donald Trump managed to pull off in the United States. Geert Wilders and Marine Le Pen are the leaders of the PVV party and the Front National in the Netherlands and France respectively and are both in the lead in the latest opinion polls.
Within the Brexit campaign, vote and aftermath focus on the popularity of the European Union as a whole was front and centre of the European political conversation. Wilders and Le Pen have both commented positively on the Brexit phenomenon and will use lessons learnt from the campaigns to drive engagement and popularity in their respective votes.
The PVV party have lost some of their lead in the polls since Brexit with Prime Minister Rutte’s VVD party now drawing to in recent months. Opinion polls in both Brexit and the US election underestimated the popular turnout – the phenomenon of populists not being on electoral rolls or pollster’s databases – and so there is a decent chance that the PVV party remain in the lead into the vote.
The Front National and Marine Le Pen have a more difficult route to the Presidency however than Donald Trump ever did due to the French system of two ballots. While she is leading in almost polls for a first ballot – amidst a field of 10-12 candidates depending on the pollster – it is the 2nd ballot that decides things. In polling for the 2nd ballot she is shown as losing by a substantial margin against all other frontrunners apart from current President Francois Hollande who has the worst opinion poll ratings of any French President ever. As with her father in 2002, it is likely that her support in the first ballot will not translate into wider support against a Republican like Francois Fillon or Socialist such as Manuel Valls.
Similarly, in Germany, we believe the threat to Angela Merkel is rather overstated although the electoral campaign between her Christian Democrats and the right-wing populist Alternative für Deutschland party will grab the headlines as the latter focuses on Brexit and Trump campaign gains on matters of immigration, middle class angst and national pride especially following the Berlin attack in the days before Christmas.
While we see Merkel’s CDU/CSU party winning out in the end – on the basis of a ‘steady hand’ amidst issues of a continued Eurozone crisis, Brexit and growing Russian influence – it will be the AfD who ‘win’ the election by finally getting representatives into the Bundestag.
Issues of growth and inflation or the lack thereof in the Eurozone will also act as a persistent pressure moving forward and any moves by the European Central Bank to create either will give speculators another reason to sell. Parity in EURUSD is a common call in times of European angst and I think that the circumstances of a strong, Trump driven dollar and European political issues makes now a better opportunity for that price level to be reached than in the past.