EUR: Fundamental picture is clearly for upside - Nomura

Analysts at Nomura explain that the positive fundamentals continue to underpin the EUR as since mid-2014 the Eurozone economy’s slack has been reduced at a significantly faster rate than that of the US.

Key Quotes

“These developments have not yet been reflected in ECB policy, government bond yields or the EUR. We do not believe this divergence can last indefinitely and therefore see a high risk that the ECB will be more hawkish than expected in coming months and quarters, particularly given our above-consensus forecasts for growth and inflation.”

“We expect the ECB to signal its intention to taper QE purchases at the September meeting with the move starting from January 2018. This would be EUR positive, and potentially in a non-linear fashion, as the ECB exits the ZLB.”

“A key debate has been whether rate hikes can come before the end of QE. This scenario would be more EUR positive than the Fed-style normalisation process, which is one reason why this exit strategy may be problematic for the ECB. While we expect tapering before a rate hike, the risk of this scenario cannot be ruled out, and points to EUR upside risks. It is one of several reasons why we expect EUR/USD to test 1.15 by year-end.”

“So if the ECB tapers and the EUR curve bear steepens, JPY would be the clear underperformer, while an early rate hike would likely weaken USD, GBP and CAD more. However, any risk of a full “taper tantrum” may be a bit of a stretch given ECB tapering will be less negative for high yielding G10 and EM currencies than rate hikes, and the smaller increase in exposure to these bond markets will likely limit the mid-term impact of ECB QE on them too. These currencies’ reactions will still depend more on risk sentiment though, and ECB communications ahead of likely normalisation will be crucial.”