Revisions to the expected timetable for a US interest rate rise after disappointing jobs data have undermined bets that the euro will plunge against the dollar as monetary policies in the euro zone and the United States diverge. Expectations the central banks would chart different courses dragged the euro from around $1.40 in May 2014 to a 12-year low below $1.05 in March, when the European Central Bank launched its trillion euro plus asset purchase programme.
Banks including Goldman Sachs had forecast the ECB's money-printing would push the euro below parity, but after months in which the common currency has defied expectations of sustained weakness, some are revising those projections. HSBC now expects the euro to end 2015 at $1.15, up from $1.1220 on Wednesday.
"We have two moving parts when it comes to euro/dollar. On the one side sits the Federal Reserve and on the other the ECB. The Fed is seen as the hawk while the ECB is the dove," HSBC strategist David Bloom said. "Now we believe the reverse to be true: that the Fed will not deliver to their hawkish dots and that the rate cycle - if it ever gets going - will be shallow and short.
"The ECB on the other side will not be able to be super dovish. Thus as the market adjusts to a not-so-hawkish Fed and a constrained ECB the euro will adjust upwards. Speculators, too, have steadily cut bearish bets on the euro, having held record high short positions earlier this year, even as the ECB says it is ready to ease policy further if necessary.
Seven months into the ECB's quantitative easing programme, under which it floods the system with newly-printed euros, the single currency is 4.5 percent higher against the dollar and up 3.5 percent on a trade-weighted basis. That partly reflects the belief that the Federal Reserve will not now raise US interest rates until well into next year, after last month ducking a first rate hike since 2006 as worries about China's economy shook global financial markets. September's jobs numbers reinforced those expectations.
Euro strength has also been driven in the past two months by investors unwinding carry trades, in which they borrow in a low-yielding currency to buy higher-yielding assets, after China devalued the yuan and triggered fears of a global slowdown. A stronger currency complicates the ECB's effort to boost euro zone inflation towards its 2 percent target. Imports become cheaper, dragging down headline inflation.
"Given that the ECB had identified the weakening of the euro as one of the main results of its QE programme, the recent strengthening must be of concern to the ECB," said Tanguy Le Saout, head of European Fixed Income at Pioneer Investments. "We suspect the ECB would like to wait until early 2016 before considering any extension to the existing QE programme, but their hand may be forced by the euro's strength."
Normally, speculation about more money-printing would drive a currency lower, but the euro has barely budged. "Whether another round will have a huge impact on the euro is questionable," said Richard Falkenhall, currency strategist at SEB. "After all, we have seen with the Fed and the Bank of Japan that QE can only achieve a limited amount in driving down the value of the currency." The yen fell 10 percent after the BOJ expanded its asset-purchase programme in October 2014 compared with a 17 percent drop when it launched the scheme in April 2013.
Similarly, the dollar gained after the Fed launched QE2 in November 2010, compared with a drop of 8 percent after QE1 was launched in late 2008 - the same decline seen in the euro soon after the ECB announced its QE programme in January. That is unlikely to be repeated if the ECB eases further, especially as analysts say the ECB's self-imposed restrictions on bond ownership would limit the duration and scale of more QE. "So even if the ECB increased asset purchases by the same size ie an additional 60 billion in monthly purchases, which is very unlikely in our view, its effect on the euro would be smaller compared with the first programme," said Petr Krpata, currency strategist at ING.