EUR: Can it sustain above 1.20? – BBH

The important factor investors need to grapple with is the euro and market psychology as after moving above $1.20 on August 29, the euro could not sustain the momentum, and it has slipped lower, explains the research team at BBH.  

Key Quotes

“The disappointing US core PCE deflator and employment growth saw the euro make another run at $1.20 before the weekend (~$1.1980) before selling off on reports of the ECB's cautiousness next week.  The euro finished just off session lows.  At the start of this year, many were concerned about the extreme long dollar positioning.  Dollar sentiment seems as extreme now but in the opposite direction, and the euro is the un-dollar of choice.”

“From March 2015 through June 2017, the euro was largely range-bound between roughly $1.05 and $1.15.  The highs in August 2015 and May 2016 marked by similar price action as we saw last week--euro rally to new highs but finishing on its lows.  We had linked our expectation of a better fourth quarter for the dollar partly to the idea that the lifting of the US debt ceiling will drain around $400 bln as the Treasury's steps to maneuver around the ceiling are reversed.”

“Due to the idiosyncrasies of the US political system, the emergency funds for the area devastated by the recent storm may be tied to lifting the debt ceiling.  It is not clear, but this could take place in the coming days.  Lifting the debt ceiling would ensure that the government does miss a debt payment.  New spending authorization is a different matter.   The failure to reach an agreement could lead to a temporary shutdown of what are regarded as unessential services.  President Trump has threatened to allow the government to shut if funding for the wall with Mexico is not provided.”

“That brings us to the third central bank that will draw investor attention.  The FOMC does not meet until September 19-20.  However, ahead of the blackout period (starts September 9), several Fed officials will speak.  We think Governor Brainard and NY Fed President Dudley comments are the most important. Brainard previously seemed to lead the Fed's concern about the international prospects, and more recently was among the first to flag the softening price pressures.”

“Dudley part of the troika (with Yellen and Fischer) that seem most often expressing the policy signal.  Dudley most recently suggested the balance sheet operation would begin shortly (announcement this month), and that he would be inclined to raise rates again provided there were no downside surprises.”

“The impact of the storm could shave 1% off Q3 GDP and 0.5% of Q4 GDP to use rough and ready estimates  It will produce all kinds of distortions in the economic data. How will the Fed navigate those, on top of the drama in Washington?  Can the Fed begin allowing the balance sheet to shrink in October even if the government may be shut?  We look toward Brainard and Dudley to shed light on how the Fed is wrestling with these issues.”