Euro’s Year-End Rally Sees Cross Currency Swaps Climb to Record

(Bloomberg) -- The battered euro is finishing the year strongly and setting up the case for better performance next year.

The common currency rose to its strongest level versus the dollar since August on Monday and cross-currency basis swaps -- a measure of demand for funding purposes -- climbed to the highest on record, Bloomberg Generic Prices show. While both moves mirrored a strong end to 2018, this time around options traders have also turned positive for coming months, in contrast to a weaker outlook a year ago.

Thanks to the dollar’s enduring strength, the euro has lost more than 2% in 2019 to be one of the worst-performing major currencies. Still, it’s rallied nearly 1% in recent days to touch $1.12 amid thin holiday liquidity and funding strains. While this can be seen as a non-lasting side effect of the normal year-end dynamics, it alters the medium-term outlook for the currency.

Euro-dollar cross-currency basis swaps, which are sometimes used as a cash proxy and tend to move more dramatically during times of funding stress, climbed above zero Monday, just as they did at the end of 2018. They quickly returned below zero in January this year, when the euro also lost traction and stayed under pressure until end-May. This time, things may be different.

Three-month risk reversals, a gauge of sentiment and positioning in the options market, show traders are the most bullish on the euro in almost two years, whereas in late 2018 they favored bets on a drop in the currency. Technical charts also suggest the euro has firmly established a positive short- to medium-term outlook.

The euro is on a higher highs, higher lows pattern and has been rooted in a bullish trend channel since October. It could target a close above its 55-weekly moving average for the first time since May 2018, which would take it above $1.12, while longer-term momentum indicators remain in neutral territory. On an Elliott Wave basis, the move may extend to $1.1412, its high on June 28.

• NOTE: Vassilis Karamanis is an FX and rates strategist who writes for Bloomberg. The observations he makes are his own and are not intended as investment advice

To contact the reporter on this story: Vassilis Karamanis in Athens at vkaramanis1@bloomberg.net

To contact the editors responsible for this story: Dana El Baltaji at delbaltaji@bloomberg.net, Neil Chatterjee, Anil Varma

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