The USD Index gained close to 7% during the calendar year 2018.
Considering that the EUR/USD has a 57.6% weighting in the Index, it’s not surprising that single currency lost over 6% versus the Greenback during the same period of time.
Forex traders were drawn to the USD as the US Federal Reserve (FED) raised the FED Funds target by 100 basis points last year and gave forward guidance for more tightening into 2019.
Furthermore, while the European Central Bank (ECB) added €600 billion to their balance sheet last year, the FED drained $400 billion from the global banking system.
This divergence in monetary policy underpinned the USD versus the Euro, as well against all the other G-7 currencies except the JPY.
However, over the last five trading sessions, the EUR/USD has rallied over 2.5% and posted a 2-month high of 1.1560 during yesterday’s London session before reversing sharply lower to trade just below 1.1500 into the NY close.
We believe that the intraday reversal was prompted by the release of the ECB’s minutes of their policy meeting in December, which included discussions about opening up a third round of Targeted Long-Term Refinancing Operations, or TLTROs.
TLTROs are effectively another form of quantitative easing (QE) except they are directed at banks and financial institutions and have a four-year duration at a zero interest rate. The previous two rounds of loans in 2014 and 2016 totalled over €700 billion; mostly to Italian and Spanish banks.
With the ECB just terminating their outright QE purchase program last month, we interpret reopening the TLTRO as a red flag for Euro zone growth and export data going forward. Moreover, we see this as a signal that the EU banking sector is still struggling with solvency issues and that the ECB will be forced to keep rates unchanged to lower throughout 2019.
As such, it’s very likely that the divergence in interest rate policy between the US and EU will continue to favour the USD and that the recent strength in the EUR/USD will end up being both transitory and limited.
Our trade suggestion to sell EUR/USD at 1.1480 was filled, which lifts our average price to 1.1465. We suggest adding to short positions at 1.1570, with an initial target of 1.1225 and a 1.1665 stop.
Recent headlines about progress in the US/Chinese tariff talks has been supportive for the Aussie dollar. Today’s retail sales data was slightly higher-than-expected, which pushed the AUD/USD over .7200, or over 450 points above last week’s flash crash low. We’ve seem this type of optimism in the Aussie based on low-level trade talks before and it just doesn’t last.
And while the flash crash low of .6740 will likely remain safe for a while, we don’t see scope for a protracted move higher based on inchoate headlines about US/ Chinese trade negotiations.
Our trade suggestion to sell at .7165 was filled, which lifts our average price to .7120. We suggest adding to short positions at .7245 with an initial target of .6865 and a .7360 stop.
The most notable aspect of the Sterling this week has been the light trade flow on both sides of the market. Clearly this is a function of the markets wariness to trade in size on either side with the Brexit vote scheduled for January 15th. Our trade suggestion from Monday to sell at 1.2810 was not filled. We suggest cancelling that order and staying on the sideline into the weekend.
Despite the strong rally in global equity market this week, the USD/JPY did not get a lift and is still close to 300 points below the 30-day moving average at 111.20. Technically, even though the daily RSI is near 30.00, there is little to suggest a significant low has been posted.
Our trade suggestion to buy at 106.80 was not filled. We suggest keeping it in place with an initial target of 109.60 and a 105.80 stop.
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