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Forget about parity between the euro and dollar

The last week on financial markets has been marked by the weakening of the dollar against a basket of other currencies. The dollar’s slide gathered pace yesterday, with the EURUSD pair rising by 1.2% to 1.1363, hitting a new one-year high while the DXY (US dollar index) fell by 1% to 96.3 against the other currencies in the index. The driving force behind this was ECB president Mario Draghi’s speech. Draghi pointed to the Eurozone’s economic recovery and the effectiveness of the central bank’s current monetary policy. Market participants took this as a sign that the bank’s stimulus programs are going to be gradually curtailed.

Recent data releases do indeed point towards recovery for the European economy; business activity indices are at 6-year highs and unemployment figures are at an 8-year low. The ECB is currently running a QE program to the tune of 60 billion EUR a month, but should the economy show some positive signs over the next few years, this could be replaced by increasing interest rates. Yesterday’s speech from Janet Yellen, in contrast, was relatively cautious. At the ECB forum in Portugal today, the heads of several central banks are set to speak. These include Haruhiko Kuroda (Bank of Japan), Mark Carney (Bank of England), Steven Poloz (Bank of Canada) and Mario Draghi (European Central Bank).

In a couple of years, the differential between the monetary policies of the ECB and US Fed may start to decrease. This could end a 9-year trend on the EURUSD pair. This trend has thus far been adhered to on the expectation that the US Federal Reserve (unique among the central banks of developed countries) will start to tighten its monetary policy. The euro may seize the initiative in the coming years. The immediate target for growth of the EURUSD pair is around 1.15-1.16.

Half a year ago, the EURUSD was trading around 1.05 and traders were wondering when to expect parity between the two currencies. It looks like we can forget about this for now. It would seem to me that a weakening dollar should provide support to riskier assets (both stocks and commodities), but the selloff of the last few days has put a strain on US assets. For example, yesterday, the NASDAQ index fell by 1%. We think that in the coming days and weeks, we could see a shift from US to European assets. As such, it’s worth buying some shares in European companies, especially from those in the financial sector.

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