Bets on the euro weakening against the dollar, which had looked forlorn for much of this year, are finally showing signs of coming good as investors price in growing chances of further monetary easing by the European Central Bank.
It has been clear for months that the ECB and the US Federal Reserve are on divergent paths, with the Fed expected to raise interest rates on signs of economic improvement and the ECB to keep policy loose with euro zone growth and inflation meagre.
Despite this, the euro has "defied gravity", rising off levels just below $1.05 in March to within a whisker of $1.15 last week.
But now, with Fed policymakers saying they could still raise interest rates this year, even after holding off on a hike last week, and their euro zone counterparts saying the ECB could extend its asset purchase stimulus scheme, the euro may finally grind lower.
One- and three-month euro/dollar risk reversals, which measure demand for options on a currency falling or rising, show their biggest bias in over seven weeks for a weaker euro. Implied volatility, a gauge of how sharp currency moves will be, is also picking up.
"We expect additional ECB easing to bring an end to recent range-trading and reassert the downtrend in the euro/dollar," said Marvin Barth, European head of FX strategy at Barclays.
"A shift in focus to the work the ECB must do now should refocus attention on the euro area's much greater vulnerabilities and further euro weakness."
The renewed bearishness towards the euro came after ECB Chief Economist Peter Praet reiterated the bank's readiness to modify its trillion-euro bond-buying programme should economic turbulence merit action.
In contrast, across the Atlantic, two Fed policymakers made it clear on Monday that interest rate hikes were very much on the table for 2015. Indeed, investors are pricing in a 50 percent chance of a lift-off in December.
"As more investors price in chances of a rate hike in December by the Fed, euro/dollar, in our view, will come under more pressure," said Yujiro Goto, currency strategist at Nomura in London.
On Tuesday, the euro hit a two-week low against the dollar, trading below $1.12 and retreating from a high of $1.1460, struck last Friday. The euro also shed 1 percent against the safe-haven yen.
The differing policy outlooks of the Fed and the ECB led to hefty bets in favour of the dollar and significantly large positions against the euro, but they were largely unwound as the Fed pushed back expectations of when rates might rise for the first time since 2006..
Net long positions in the dollar fell to their lowest in more than a year in the week to September 18.
That has driven down the dollar and helped the euro recover from 12-year lows of $1.0457 hit in March.
Besides, the euro has been helped by an unwinding of risky euro-funded carry trades after China devalued its currency in August, sending shockwaves across the globe. The euro hit its highest since mid-January of $1.1728 on August 24, in fallout from the yuan devaluation and on worries about global economic slowdown.
Those carry trades, in which investors sell the low-yielding euro to buy higher-yielding assets, were put in place after the ECB cut deposit rates to negative and flooded the system with euros through its asset purchase programme.
With expectations of further easing by the ECB returning, potentially including a deeper cut in the deposit rates, traders said investors and speculators were re-grouping to put on fresh bets against the euro.
"Depending on how credible an upsizing to the ECB quantitative easing (programme) is, we see scope for euro/dollar to fall between 6 and 10 big figures," analysts at Goldman Sachs said in a report released on Monday. The investment bank expects the ECB's asset buying programme to continue into mid-2017.
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