Short The Euro
Summary
- The euro is in a downtrend.
- Brexit is a mess.
- The ECB is planning more stimulus with QE.
- Debt in the EU is still very high.
- The German economy is slowing down.
The euro is depreciating. To see this clearly, it is sufficient to see a few charts. The first chart, Year to Date, shows the downward trend from 1.15 to the US dollar to 1.10.
The Five Year Chart shows that the euro was at 1.25 and then fell to 1.05, stayed between 1.05 and 1.10 only to recover to 1.25 and then start depreciating anew.
The Full Historial Chart from 1999 starts at around 1.18 and falls to below 0.90 by the beginning of 2000. By 2009 it climbs up to 1.60 due to US dollar woes and the recession. It then holds firm until 2015 and then falls to 1.10.
The purpose of reviewing the history of the EUR/USD is to show that over the twenty-year period since the inception of the euro the exchange rate has varied widely. Up to the present time for the most recent past the euro has been trading within a fairly narrow band as can be seen from the Year to Date chart, namely, between 1.15 and 1.12. The recent drop to 1.1029 clearly indictes the direction that the euro is taking.
The Brexit Mess
The current government confusion in the UK creates uncertainty, which certainly does not help the euro. It is not clear at the moment what Parliament is going to do except that it wants a Brexit deal. It seems that parliament does not reckon with a net refusal on the part of the EU and expects Brussels to make new proposals to replace the deal that Theresa may presented and which was rejected. The EU wants the Irish “backstop” and will opt for a No-deal Brexit if Parliament insists on a deal that does not include the “backstop”. In any case the confusion in London over Brexit does not help the euro. One can assume that Brexit has already been priced into the exchange rate, but once the UK actually leaves the EU there may be some afterschocks.
ECB Stimulus
Mario Draghi, the outgoing chairman of the ECB (European Central Bank), has promised more QE in an attempt to stem the worsening economic climate in the EU. Presently the balance of the ECB is about 40% of the EU GDP. With interest rates already so low and even with negative yields for a good part of the EU sovereign debt, it is doubtful if lowering interest rates would help very much. One may note in passing that central bankers have had no experience with the effects of long-term negative interest rates and yields. They do not know what the results are going to be because such economic experiments have not previously been carried out. The ECB chart below indicates that the EU will have negative yields for a long time.
One side effect of negative interest rates in the EU has been an increase in house prices. This price increase is not reflected in official inflation figures.
How Europeans' household net worth is 'now exclusively driven' by negative interest rates
High EU Debt
The EU area has an average debt to GCP ratio of 85.1%. This is an improvement over the situation in 2014 when it was 92%. See the chart.
European Area Government Debt
Euro Area Government Debt to GDP
In any case this level of debt to GDP is still very high and is an impediment to growth.
Germany Is Slowing Down
The German economy is close to a recession. GDP growth has been stunted for years and since the beginning of 2018 has not surpassed 0.4% per quarter.
Since Germany is the real motor of the EU economy, any slowdown in Germany is negative news for the EU. Germany made up 21.3 % (€ 3.3 trillion) of EU GDP in 2017
The consequence of this development is that the euro most probably is going to weaken as Germany is export-oriented to a great extent. In 2018 the percentage of German GDP due to exports was 47%.
German Exports Percentage of GDP
Conclusion
The EU economy has various problems., and they are going to cause the EU currency to depreciate. The trend of the euro indicates that it is depreciating. The EU has very high debt levels. The anticipated ECB stimulus will accentuate the downward trend of the currency. Bond yields are in negative territory. One can expect the euro to depreciate further in 2H19, given the economic slowdown. Shorting the euro could be a good trade.
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