Don’t look now, but EUR/USD is now up 500 pips over the past couple of weeks! In fact, it’s jumped nearly a thousand pips from its July lows at around 1.2050.
Don’t believe me? Just take a look at the chart below!
Now that the pair has broken through the 1.3000 barrier, I’ve got a feeling that it could rally for even more gains. Here are four reasons why:
1. Developments on the European front
In recent weeks, we’ve actually been hearing some good news from Europe.
Two weeks ago, the ECB announced its new bond purchasing program called the Outright Monetary Transactions Program. The proposal was well-received, as the markets took it as a sign that Mario Draghi would live up to his promise to do whatever it takes to save the euro zone.
Last week, early exit polls showed that the pro-austerity party in Dutch politics, VVD, was in the lead. This of course, led to a sigh of relief to other European leaders, as anti-austerity groups have generally led to more headaches and political squabbles.
Lastly, our buddies over at the German High Court finally announced their decision regarding the constitutionality of the ESM and thankfully, voted in favor of its ratification. This was a big step towards implementing the ESM as the permanent bailout solution, as Germany will most likely be the biggest provider of the fund.
2. Spanish and Italian bond yields fall
It appears that the recent slew of developments have also had a positive spin on European bond yields.
Since the announcement of the OMT program, Spanish bond yields have dropped to 5-month lows. Currently, yields are clocking in below 6.0%, way below the 7.51% high we saw in late-July.
Meanwhile, Italian yields have also dropped, with 2-year, 5-year, and 10-year yields all falling off their highs.
This suggests that creditors are confident that the Spanish and Italian governments will be able to get their debt levels in check, with the help of the ECB.
Furthermore, take note the Spanish government has already gone on record saying that it wanted a bailout at all costs. If Spain is able to keep yields below 6.0%, it may be able to achieve this, which in the long run, should help keep EUR/USD afloat in the long run.
3. Fed’s QE3: Bearish for USD in the long run?
When it comes to monetary policy, the Fed and ECB are on the same boat as both central banks are trying all that they can to stimulate their economies. However, the Fed’s most recent quantitative easing program trumps that of the ECB’s when it comes to size and scale, implying stronger downward pressure on the U.S. dollar.
Recall that Fed head Bernanke declared that the Fed will purchase 40 billion USD of debt each month until employment in the U.S. picks up -practically an open-ended easing program! On top of that, the Fed also extended its low interest rates pledge from 2014 to mid-2015.
With a longer period of low U.S. interest rates and an increased amount of dollars being pumped into the economy, the Greenback is likely to keep losing value going forward.
4. Risk appetite is up!
With additional liquidity being injected in the U.S. economy, credit could be freed up and consumers would be encouraged to spend and invest. This could eventually boost growth, not just in the U.S., but in the global economy as well.
Stronger economic prospects could spur investors’ appetite for risk and higher-yielding assets. As a lower yielding safe-haven currency, the U.S. dollar stands to lose in this kind of market environment as traders would rather park their money in higher yielding currencies instead.
How high can EUR/USD go?
Well, that’s tough to tell for now. Some experts say that EUR/USD could rally until the 1.3500 handle while other estimates are as ambitious as 1.5000.
Of course, let’s not forget that most of the factors that I mentioned have already been priced in as early as the ECB’s rate decision this month or when the bleak August NFP figures were released.
Aside from that, euro zone debt problems are still present despite the progress made in trying to keep the crisis contained. Make sure you stay tuned for my updates on whether the outlook for EUR/USD has changed or not!