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Early rally ‘as good as it gets’?: Euro keeps sliding after Macron’s win

The euro continues to decline after the success of Emmanuel Macron in the French presidential election.

At pixel time, it is down a little on the day, at $1.0912, having rushed above $1.10 yesterday when the election result was first announced.

Expect a sedate path for the currency from here, but keep the faith, suggests Commerzbank’s Esther Reichelt. “Take courage!”, she advises:

The political risk component has become almost insignificant for the euro exchange rates for now. Of course the elections in Italy continue to throw a shadow of doubt over the future of the single currency. But for now the elections that are not likely to take place before 2018 are not an issue for the FX market. Hence, the implied euro/dollar volatility has fallen to the lowest level since 2014, the year marked by extraordinarily low volatility.

The risk reversals too are illustrating a change in mood. They continue to trade in negative territory, which illustrates that it is still more expensive to hedge against falling euro levels on the options market rather than against rising levels. However, the price momentum confirms our impression: now that political risks in the euro zone have been priced out, attention increasingly focuses on monetary policy. And the market is optimistic, just as we are, that the ECB’s next step will be towards a more restrictive monetary policy which would benefit the euro.

It should not discourage euro bulls that the momentum generated by the hardly surprising election result was not sufficient to push it above $1.10 on a sustainable basis. We stick to our forecast of higher euro levels over the course of the year.

In contrast, Neil Mellor at BNY Mellon points out that the frequent market habit for selling euros to fund other bets will work against the common currency despite the removal of the French political tail risk.

On the face of it, relief from Sunday’s French election could have been the tonic the market needed to push the euro toward its post-2014 peak against the dollar. But then, the euro is a longstanding funding currency for the carry trade, and the French election was its last major impediment.

Time and time again in recent years we have seen periodic euro peaks coincide with a “risk off” point of crisis in the euro-zone timeline. So, as political crisis raged in Greece in December 2014 (as parliament failed to elect a new president), the euro put in a sprint – and a rise when Alexis Tsipras called for a fresh election nine months later. In short, that the large net-short speculative position in euro futures that existed last December has been wound up points to risk mitigation – a process that started in the week of Donald Trump’s unexpected victory, and then took in two European elections with damaging potential for the EU. And with the outlook no longer as clouded, the market is free to return to what it was doing before it was so abruptly interrupted: swapping the euro for more attractive alternatives. The $1.1020 peak post-election could be as good as it gets for the euro, at least for a while.