EUR & ECB Cribsheet

With the relatively exciting March ECB meeting having a fairly limited impact on EUR (frontloaded purchases from the Pandemic Emergency Purchase Programme in the second quarter were more of a fixed income story), the April ECB meeting should be a non-event for the euro. Limited new news and the ECB's confirmation that it will look through any temporarily rise in CPI (due to one-off factors such as oil prices – see ECB Preview for details) suggest a muted impact on the euro tomorrow (as per the scenario analysis above). With the trade-weighted euro below its nine-month average (i.e. since the ECB started its verbal intervention last summer) there is a little need for the ECB to lean against the common currency.

While the ECB is still cautious and unlikely to provide a positive catalyst for EUR any time soon, the EUR/USD uptrend which started this month should remain in place. Plenty of bad news has now been priced in, the currency has been trading with a persistent risk premium over the past few months (see chart above) and despite the recent rise, EUR/USD still screens cheap based on our short-term financial fair value model.

The first quarter was rather dismal for eurozone economic data but this is likely to change in coming months as the pace of vaccination picks up. Improving eurozone data should translate into some upside for the euro. Indeed by summer, eurozone growth should be more synchronised with the US (particularly throughout the second half of the year – Fig 3) and this should provide support to the euro.

Equally important, the dollar strength observed during the first quarter of this year appears to be fading and USD no longer positively reacts to solid US data points. This suggests that plenty of good news is already priced into the dollar (as opposed to plenty of bad news being priced into the euro). This, coupled with the Federal Reserve presiding over deeply negative front-end US real rates (as US CPI inflation will rise meaningfully this quarter and the Fed sticks to its Average Inflation Targeting framework), should weigh on the dollar, which has already seen a meaningful positioning adjustment (with the overall USD speculative positioning now being close to neutral).

All this suggests higher EUR/USD in coming months and we expect the pair to reach and break the 1.25 level this summer.