Analysts bet on deepening euro sell-off as recession fears escalate

Analysts and investors are betting that the euro will continue tumbling even after it reached parity with the dollar as Europe’s economic outlook darkens and the US Federal Reserve lifts rates to tackle inflation.

The euro has already dropped 12 per cent this year, leaving it to trade at roughly $1, a level not seen since in two decades. A rising number of foreign currency analysts are now expecting the common currency to fall deep into the $0.90 range in coming months.

The currency has been hammered by worries about a looming economic slowdown after soaring commodity prices — stoked by Russia’s invasion of Ukraine — triggered a widespread cost of living crisis. Many analysts say that the bloc’s intensifying energy woes will worsen in the colder winter months, sparking fresh challenges.

“The question is not so much whether [a recession] is going to happen, it’s how bad it’s going to get,” said Antoine Bouvet, senior rates strategist at ING.

Citigroup analysts said this week that there is an increasing risk of a “disorderly move” in the common currency to between $0.90 and $0.95. Jordan Rochester, foreign exchange strategist at Japanese bank Nomura, took a similar view. He is predicting that the common currency will tumble to $0.95 by the end of August, or even further to $0.90 if Russia does not turn on Nord Stream 1 — its main gas pipeline to Germany — after a maintenance period concludes next week.

Such a move could leave Europe in the fragile position of rationing gas, Rochester said. “If that’s not an economic crisis, what is?” he added.

Kaspar Hense, senior portfolio manager at BlueBay Asset Management, is also expecting the euro to tumble to $0.95 due to slowing growth. “The gas price situation and the war in Ukraine is unlikely to go away anytime soon,” he said. On Wednesday, the European Commission cut its forecast for gross domestic product growth in the euro area to 2.6 per cent for 2022 and 1.4 per cent next year.

Positioning in futures contracts, which is a key proxy for sentiment of investors in the $6.6tn-a-day foreign currency market, underscores the sense of gloom. Speculators such as hedge funds are running the biggest bearish bets against the euro since December 2021 with a net short position of 16,900 contracts, according to Commodity Futures Trading Commission data up to July 5.

The euro’s drop this year also reflects a broad surge in the dollar against many of its peers, including Japan’s yen and the UK pound.

The dollar rally comes as the Federal Reserve sharply increased interest rates to battle inflation, something that has boosted the fixed streams of interest payments investors can earn from holding US bonds. The US 10-year Treasury note, for example, provides a yield of 2.97 per cent, compared with 1.22 per cent for Germany’s 10-year debt, the regional benchmark.

The European Central Bank is widely expected to boost its main interest rate this month to tamp down record inflation in the bloc. However, investors doubt the extent to which it will be able to continue raising borrowing costs giving the powerful economic headwinds.

Bouvet said that policymakers find themselves in a “bit of a catch 22”, torn between fighting scorching inflation on one hand, and the threat of recession on the other.