Five Forces Driving the Euro Down

In the two weeks that I have been away, there have been dramatic moves in the currency market. Not only did the US dollar carve out a bottom, but the greenback’s recovery has been impressive. In less 1 month, the EUR/USD has plunged 1000 pips, which is a drop of more than 6 percent. The psychologically level of 1.50 was easily broken and now, the currency pair is eyeing 1.45.

The Euro continues to get killed with the currency falling to a fresh 5 month low against the US dollar today. Although the primary catalyst has been dollar strength, growing problems in the Eurozone has intensified the selling pressure. Good news is coming out of the US more often than in the past while bad news continues to pour out of the Eurozone. Therefore it is no surprise that the strong Euro is finally catching up to the region’s economy. The Eurozone could not have remained immune to the US slowdown for much longer.

Five forces are driving the EUR/USD lower, and with no respite in sight for any of these trends, the currency pair should be headed for 1.45. These 5 factors are oil prices, eurozone and US economic data, market sentiment and the chances of a rate hike by the Federal Reserve before the end of the year.

Let’s take a look at these forces in further detail:

1. Oil Prices - Since July, oil prices have fallen more than 20 percent. As the primary drag on global growth, the sharp correction will provide strong stimulus for the global economy. $100 a barrel oil prices is exactly what the world needs to turn growth around, and the drop in oil prices over the past month pushes us in the right direction. Not only will this help to lower inflation expectations, but it will also drive down gasoline prices. Central bank officials are hesitant about believing that the drop in oil is real and here to stay, but once they see inflation start to ease (which will take 2 to 3 months), they will loosen the noose on monetary policy.

2. US Data - Although today’s consumer price data contrasts with the move in oil prices, the fastest pace of consumer price growth in 17 years is nonetheless dollar bullish. Inflation was a bigger problem than most people expected last month, but at the same time, the drop in oil prices provides hope for the future.

3. Eurozone Data - The Eurozone economy, on the other hand, is getting worse and still has a ways to go before it hits a bottom and begins to recover. This morning, we learned that for the first time in more than 10 years, the Eurozone economy contracted. The economic storm that has been brewing around the world has hit Germany hard. I expect further misses in Eurozone data in the coming months.

4. Fed Fund Futures are pricing in a 34 percent chance that US interest rates will be increased before the end of the year. As US economic data continues to improve, I expect those expectations to rise. Although I think that a rate hike will not come until 2009, rate cuts are definitely out of the picture.

5. Market Sentiment - Currency traders have become extremely dollar bullish. The FX market is very trending and for that reason, unless there is a big surprise, the dollar rally could continue for much longer than most people would expect.

Keep an eye on these 5 forces as they will tell you how much further the dollar will rise.

Comments

[eh:]

What "good news is coming out of the US"?? That's pretty funny.

2008 Aug 14 06:40 PM

[Peter Venkman:]

Kathy, you are full of crap. You say nothing beyond the obvious, and the conclusions you come to (if that's what you call them) are totally untrue. What good news from the US? Drop in oil? This is a pullback caused by the dollar strengthening itself.. quit trying to wag dogs with their tail. People are losing their jobs, losing their homes, and now they will likely quit eating filet mignons because food is getting expensive. Oil will come back with a vengeance. You make everyone on SeekingAlpha look dumb, Kathy.

2008 Aug 14 08:34 PM

[Alex_G:]

Peter,

Way to add to the conversation. The point she is making is that we may suck, but we suck less than the eurozone. Look at the oil usage numbers, the demand destruction going on, and the global economic outlook, then decide were the price of oil is heading.

When you post attacks like this, you just look like a horses ass.

2008 Aug 14 08:52 PM

[locke:]

Uh oh... you can't say anything bullish on the dollar. Goldbugs like Peter will be insulted that you blasphemed their metal-worshiping religion.

2008 Aug 14 09:06 PM

[drummer:]

The little bits of "good" news from the US economy are mostly fabricated and a whole lot of bad news is being suppressed. The psycho boys of the PPT are having to work almost as much overtime as the US Fed's printing presses.

2008 Aug 14 09:56 PM

[JLM:]

The US dollar Index has been in a nice tight downward channel since late 2005. It is currently testing the top resistance line of the channel. How one can be so sure it will break out of its channel to the upside at this point is interesting to say the least. It looks to me like a 5 wave drop since 2005 so any upside at this point is purely corrective from a technical vantage point. A fundamental shift hmmmmm. The 'bottom it carved out' was simply the index hitting the lower support line of the channel.

2008 Aug 14 09:58 PM

[Alex_G:]

JLM,

Look at PPP Euro vs USD, net debt vs GDP, then tell us that USD is overvalued vs Euro. Net debt also includes future social service obligations, recognized or not. The Eurozone is in a world of hurt rev vs future obligations compared to the US, and they have a declining pop base. Tech analysis only works for trends, not fund. Emotions don't count in these equations.

2008 Aug 14 10:15 PM

[mr. common ...:]

The one single fact that I base my opinion that the U.S. dollar was oversold, is based on the buying power of the dollar. Mainly I compare it with countries like us i.e. Canada and Europe. Of course one can use the price of a Big Mac as an indicated and take it a step further by comparing the purchasing staples such as milk, eggs, chicken, razor blades, flash light batteries, etc. For those who worship gold, I wonder how they will use their gold to purchase food, gas, etc. as gold has hardly any practical use in day-to-day life.

2008 Aug 14 11:46 PM

[hollowman:]

Peter, people like you are what we refer to as a 'jerk', on a respectable board, and another four letter word elsewhere.

You want the good news? Armageddon has been indefinitely postponed. Despite, the caterwauling of the gold bugs and uber-bears, the economy has done anything, but collapsed. In fact, you'd need to do one heck of a spin job to say this was anything, but a mild recession, so far. I'm far from an optimist, but I've lived through the 70's, and have relatives that lived through the dirty 30's, and this is a cake-walk compared to those eras.

So you have to settle for a 42" LCD instead of a plasma, and you have to trade you 2nd SUV in for a Ford Focus. Deal with it.

2008 Aug 15 01:08 AM

[Pauly B:]

Thanks Kathy for the post. Good insights. I wonder how the EURO would be playing right now if the European Central Bank would have lowered their rates and not taken such as hard stance on defending the EURO?

Yes our economy is in bad shape but it appears on the surface that the FED may have got it right. Time will tell......

PS

My ISE currency options have been doing wonderful.

2008 Aug 15 08:18 AM

[TinyTim:]

Kathy -tnx for the post.
Any reasoned opinion is always welcome.
Hope the vacation was good.
Ignore the aholes.

2008 Aug 15 01:06 PM

[surgcare:]

At least the A-holes are honest . The phony data coming from the gov and media is hiding the fact the US is in a recession worse than europe .Of course you gullible types will believe anything like the BS in this article .

2008 Aug 15 06:12 PM

[Alex_G:]

The A-holes are A-holes. One can disagree without telling the author that she is full of crap. Anything wrong with providing a polite, well thought out rebuttal?

2008 Aug 15 07:34 PM

[tclwrap:]

The first 2 reasons, OIL prices + US Data, were summarized by OIL price declines. The Fed Fund Rate reason is mute, the banks still need low rates, so it is not going to happen anytime soon. The last reason, dollar bullish, is a technical indicator and could turn overnight. With the exception of the 3d reason, eurozone data, I don't see any real drivers for the dollar. How is the contraction worse in the eurozone would be what I like to learn about. Please comment.

2008 Aug 15 09:46 PM

[tclwrap:]

forgot to mention OIL prices do not explain the dollar rise, it is the opposite. Recall OIL is a commodity denominated in $...

Reasons 1 & 2 are also mute.

2008 Aug 15 10:16 PM

[Steven Hansen:]

Of the five reasons given for bullish sentiment towards the dollar, none seem to me to explain the massive movement. Oil prices should help both currencies. The economic data is not good in the usa or euro - only comparatively different. The fed interest rate uptick is pie in the sky. And sentiment is emotion.

No, I think there is a big reason - but it was not stated in this article.

2008 Aug 15 10:31 PM

[Kunst:]

"In the two weeks that I have been away...."

You were gone?

2008 Aug 16 06:32 PM

[Kunst:]

"Reasons 1 & 2 are also mute."

Mute: unable to speak. Moot: no longer relevant; hypothetical.

2008 Aug 16 06:34 PM