Euro Skeptics Want Proof Its Rally Outlasts the Dollar

(Bloomberg) — Investors caught off guard by the euro’s sharp recovery from a two-decade low remain skeptical that the rally has any legs.

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Helped by a massive sell-off in the dollar following signs of cooling US inflation, the single currency is 5% higher against the greenback this month to its highest level since July. What is questionable is whether the euro can strengthen further on its own, according to UBS Global Wealth Management, Russell Investments and Insight Investment.

The currency briefly on the news of a rocket hitting Poland shows that it is at risk of a sell-off if the war between Russia and Ukraine escalates. And while there could be some support if Europe avoids an energy shortage this winter, further significant growth could be limited given signs that the European Central Bank may slow the pace of interest rate hikes as it calculates the impact of the highest inflation in the region. .

“The upside to the euro has probably been in the works for some time now, unless we get another bout of stronger than expected data or a more positive news flow on the energy situation, ” said Dean Turner, economist at UBS Global Wealth Management. He expects the euro to struggle to maintain gains above 1.04 by the end of the year.

“We don’t have much confidence that what we’ve seen will be part of a stronger rally.”

The euro recovered 9% from a 20-year low in September, after falling below par in July on fears that Europe could face energy rationing in the winter. But her most recent leg came from a deep dollar sale. Investors who were burned by premature calls to end the strong dollar in July want to see the trend take root this time, before making bullish bets on the single currency.

“Market participants are a bit more cautious and willing to wait for confirmation that the dollar has peaked,” said Van Luu, head of currency and fixed income strategy at Russell Investments. They are “willing to lose the first few percent of this crowd in the euro or any other currency against the dollar.”

“We’re in that camp,” he said. Russell is sticking to his neutral stance on the euro even after the latest rally.

Technical Obstacles

Technically, the single currency needs to break above the 200-day moving average at around 1.04 to push higher. Moreover, there is a greater resistance level at 1.0578, and the Fibonacci key of the euro’s slide from mid-2021, when the Federal Reserve began to telegraph its intention to raise rates.

At the same time, a rebound for the dollar could be in the cards, as shown by the Bloomberg Spot Dollar Index which has sat through a so-called ABC correction of the entire Elliott Wave cycle since its September peak.

Demand for bullish dollar calls is resurfacing. Risk reversals, a barometer of market position and sentiment, show that traders are now targeting the euro again, after being bullish on its prospects last week.

While long euro positions rose to their highest level since mid-2021 along with the currency’s recovery, some investors may be waiting for more evidence to support an argument to sell the dollar aggressively .

“You have to respect the trend, but by the same token, selling dollars after a 6% move historically is not a particularly profitable strategy,” said Francesca Fornasari, head of currency solutions at Insight Investment. “The dollar has probably bottomed out but it’s not entirely clear that you’re going to see a big move lower yet.”

–With assistance from Vassilis Karamanis.

(Updates with ECB rate forecast in third paragraph.)

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