Euro May Get a Boost From ECB as Fed's Rate-Hike Path Questioned

(Bloomberg) -- The euro could strengthen should European Central Bank President Mario Draghi stick this week to indications that monetary policy could be tightened next year, just as the Federal Reserve’s interest-rate path is thrown into doubt.

The common currency is benefiting from broad dollar weakness as traders question whether the Fed will continue to raise rates next year. The euro could rally if Draghi signals Thursday that at least one increase in 2019 is still on the ECB’s radar. Still, money markets suggest that the first hike in the deposit rate since 2011 will not happen next year.

The ECB is set to cap its asset-purchase program at 2.6 trillion euros ($2.97 trillion) by the end of this month, but has yet to announce how it will reinvest proceeds from maturing bonds. With benchmark German bund yields hovering close to year-to-date lows, any signs of hawkishness could see them climb.

The euro rose 0.3 percent to $1.1395 as of 11:54 a.m. in London. The yield on German 10-year bunds climbed two basis points to 0.27 percent.

Here’s what strategists have to say on the ECB’s final meeting of the year on Dec. 13:

Toronto-Dominion Bank: New higher trading range

• “A sharp, position-led squeeze higher in bund yields could push euro-dollar into a new, higher trading range ahead of year-end,” said Ned Rumpeltin, head of foreign-exchange strategy
• “Confirmation that Draghi is sticking to his plan would be euro positive”

Credit Agricole: Euro to recover broadly

• “The ECB will face a ‘reality check’ of its policy normalization plans and forward guidance” amid weak data and low oil prices, write strategists including Valentin Marinov
  • “That said, we expect the ECB to stick to its plans and keep its forward guidance little changed, given that it has reached the limits of its easing policy and that some of the economic and political risks should start to abate from here”
• “This could help EUR/USD recover”

MUFG: ECB may open upside for the euro

• “The strong wage data for 3Q should have provided comfort to the ECB that underlying inflation pressures are picking up and keep it on track to gradually normalize policy,” says strategist Lee Hardman
  • “Yield spread between the euro zone and U.S. has recently narrowed in favor of the euro”
• “If the ECB proves less dovish than expected, it could open up further upside for the euro” toward $1.15

Morgan Stanley: Short Schatz

• “The possibility of a passive operation twist being announced, whereby the ECB would try to extend duration as much as possible in the reinvestment portfolio, could also send a message to markets about the ECB’s intention to continue to anchor the term premium in the belly of the curve,” writes strategist Elaine Lin
  • Holds the view that a 15bp hike in depo rate in Oct. 2019 seems likely
• We “like to be short 2y Schatz at -0.61% into 2019 as a low-cost option to position for rate renormalization”

Barclays: A lot of dovishness priced

• “We expect the Governing Council to telegraph a cautiously confident tone,” write strategists Cagdas Aksu and Max Kitson
  • “While large reinvestment announcements on policy are less likely, we would not rule out relatively long-end curve-friendly indications”
• Suggest remaining bearishly positioned into the meeting “at the belly of the curve via paying EUR 2s5s10s,” while “favoring 10s30s flatteners in France”

To contact the reporter on this story: John Ainger in London at jainger@bloomberg.net

To contact the editors responsible for this story: Ven Ram at vram1@bloomberg.net, Keith Jenkins

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