Thursday, June 5, 2014

Yes, it was priced in | June ECB decision only the start

Yesterday we exited our short EURUSD position on the grounds that any announcement by the ECB after its June meeting yesterday was already priced into the market. While there was considerable volatility after the rate cut and during Mario Draghi’s press conference, the result at the end of the day was as we had predicted: The Euro actually rose against the US dollar instead of plummeting, as might have been expected if the majority of market participants had not already taken short positions in advance of any announcement.

The upward rise in the pair later in the day was probably as the result of both profit taking and a reversal of the positions that had come too late to the party – a classic short squeeze.

June ECB decision only the start

That said, the measures announced yesterday are only the start of what could turn out to be a long process to save the Eurozone economy. There are a number of factors to bear in mind. These are largely contained in the remarks, which we regard as very telling in regard to future currency movements, by the ECB president at the press conference. He said, in effect, that while the value of the Euro was not a policy matter for the ECB, it is important for price stability, which is the greater part of the ECB’s mandate. When asked by a reporter about what might happen in the event that the measures announced failed to have the required effect, he said “…are we finished here? The answer is no”.

This last can be taken to mean that very definite Quantitative Easing (QE) measures, which the ECB has avoided like the plague up to now, are in the pipeline. This is borne out by the information that the bank has undertaken preparatory work to conduct a form of US Federal Reserve type of bond buying by purchasing asset backed securities from banks.

Given that they are now charging the same banks for the privilege of parking their excess liquidity at the ECB, it must be hoped that the money paid for these bonds will find its way into the real economy, tending to increase inflation, which is a negative for the value of the Euro.

Up to now, Germany has been the main blocker of measures that might result in Euro zone inflation. There is now good reason to believe that this blockage is no longer there, at least for the medium term.

All in all, we expect the Euro to gravitate downwards from here. As we reported previously, though, our preferred vehicle for playing this belief is the EURGBP currency pair, or the Pound Sterling against the Euro. We currently hold a position in this, on the short side. This means we also expect the Pound to strengthen.

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