EUR: What's in the price? – Rabobank

Jane Foley, Senior FX Strategist at Rabobank, points out that right from the very start of 2017 the Eurozone was printing better than expected economic data and if the first couple of trading days of this year are anything to go by, 2018 is off to a similar start. 

Key Quotes

“Following on from a stunning set of final December PMI data yesterday, Germany has this morning reported a record low in its unemployment rate (5.5%).  Not only that but in December the unemployment queues declined by a far better than expected -29K.  Although the latter number was better than the printed market median, the market was well prepared for the news.  Yesterday Germany’s Federal Employment Agency reported that the country’s workforce grew to a record high of 44.3 mln last year after a sharp rise in demand for temporary and skilled workers at the end of the year.” 

“The stunning growth data reported in the Eurozone is not just limited to Germany. Even the countries most affected by the region’s debt crisis are posting strong economic data.  Ireland’s Q3 GDP growth rate registered a stunning 10.5% y/y.  Although this is skewed by Irish resident multinationals reporting back manufacturing outside of Ireland, GDP in volume terms still managed a strong 4.2% expansion in the quarter.  In Portugal, the central bank is predicting growth of 2.6% in 2017 and 2.3% in 2018.  Also, with the budget deficit at a 40 year low, last month the country was rewarded by a decision by Fitch to upgrade Portuguese debt from junk status.  This followed a similar decision from S&P in September.  Even in Greece, growth is expected to be in the region of 1.6% in 2017 and to accelerate at a faster pace in 2018.”

“In December the Greek manufacturing PMI reached a 9 year high after 7 straight months of improvement.  Although unemployment is still high in Greece, it is expected to continue declining this year as the recovery gathers steam.  Early last month the EU confirmed that a deal which included energy, fiscal and structural reforms had been agreed with the Greek government.  Although there is still another review due before Greece can leave its bailout programme, the government is optimistic that this will be successfully concluded in the summer allowing Greece to tap the bond markets.  Yesterday Greece’s Deputy Economic Minister Pitsiorias reported there is already “great investment interest”.  Last month Greece’s 10 year bond yield fell below 4.00% for the first time since 2006.”

“Although there is little doubt that the economic backdrop for the EUR is positive, the unit was already the best performing G10 currency in 2017, rising over 15% vs. the USD. It must therefore be assumed that a lot of good news regarding the economic backdrop is already in the price.  That said, we remain of the view that the EUR can extend its better tone in 2018.”

“Through most of last year we were of the view that a broad-based rotation back into euro assets was taking place. European equity indices pushed higher across the board with the gains emphasised by the appreciation of the EUR.  In USD denominated terms, Germany’s benchmark stock index rose by almost 30% last year with France’s not far behind.  The promise of strong growth and cheap money supported investment opportunity in the region.  The fact that the Eurozone has a huge current surplus (in the region of EUR30 bln) also likely played a part in supporting EUR denominated investments.   The strength of the gains made last year suggests that the low hanging fruit has most likely been picked.  That said, fundamentals are continuing to strengthen and the EUR may have the added support this year from speculation surrounding ECB policy.”  

“2018 is likely to be marked by policy normalisation by several major central banks. The ECB have already tapered its huge QE plan, and dependent on the outlook for inflation it could decide to end this plan in September, potentially paving the way for a rate hike next year. Although this is still some way off, the market is likely to price-in a tightening of liquidity from the ECB well before the policy is announced.  This implies that inflation and wage data will be closely watching in the coming months.” 

“On the assumption that a lot of good news is in the price, we expect the gains in the EUR to slow this year. However, as we outlined yesterday we have revised up our 6 mth EUR/USD forecast to 1.22 and see scope for a move to 1.24 by the end of the year.”