Credit Suisse Group AG went against the consensus in June and correctly called the euro’s rally. Now, the bull has turned into a bear, with the firm predicting the common currency’s biggest annual drop in almost a decade.
The euro’s appreciation to its strongest levels against the dollar since 2011 will likely be unsustainable as the monetary policies of the European Central Bank and Federal Reserve separate, strategists at the Swiss lender say. Yields on German bunds have fallen to the lowest in seven years relative to U.S. Treasuries, weighing on the 18-nation euro.
“We were bullish on the euro up to now, but as we head into next year, we think the policy divergence theme is going to dominate” and favor the dollar, Anezka Christovova, a foreign-exchange strategist at Credit Suisse in London, said in a late-December phone interview.
Credit Suisse sees the euro dropping 10 percent in 2014 to $1.24, down from $1.3743 at the end of last year and lower than the $1.28 median estimate of more than 40 analysts in a Bloomberg survey. With the currency trading at about $1.30 in June, the bank forecast a gain to $1.38 by year-end, above the $1.27 median prediction at the time. The euro hasn’t fallen by as much as 10 percent since 2005.
Sentiment Reversal
The reversal in sentiment at Credit Suisse may suggest that this is the year the euro finally makes good on the bearish predictions of most analysts. The currency soared 8.5 percent in 2013, as measured by Bloomberg Correlation-Weighted Currency Indexes, as the euro region’s recovery from a sovereign-debt crisis gathered pace. That more than made up for a dovish central bank that cut interest rates to a record 0.25 percent.
Skeptics stung by the rally included John Taylor, the founder of FX Concepts LLC, who called for the shared currency to weaken to parity versus the dollar. New York-based FX Concepts, once the world’s largest currency hedge fund, closed its investment-management business in October.
The euro is primed to weaken as a stronger U.S. economy prompts the Fed to reduce the amount of dollars it prints to buy bonds -- a policy that has restrained the greenback. At the same time, inflation at less than half the ECB’s target will allow that central bank to maintain its accommodative policy.
‘Profound Impact’
“Tapering may change the perception of how the dollar is viewed, especially against the euro,”Daragh Maher, a currency strategist at HSBC Holdings Plc in London who sees the euro falling to $1.28 by year-end, said in a phone interview. “2014 could be the year when monetary policy moves in opposite directions and this could have a profound impact on the euro.”
Europe’s common currency rose against all nine of its developed-country peers last year, based on Bloomberg Correlation-Weighted Currency Indexes, posting its first gain since 2008 as the economy emerged from its longest recession on record. It bought $1.3665 as of 12:22 p.m. in New York today, after climbing 4.2 percent versus the dollar in 2013, the biggest annual gain since 2007.
Greek sovereign bonds rallied 48 percent, the most among 31 sovereign-debt markets tracked by Bloomberg World Bond Indexes. The second-best performer at 12 percent was Ireland, which exited its international bailout program on Dec. 15.
The euro starts the new year stronger than the predictions of all but one of 68 analysts and strategists who submitted forecasts to Bloomberg by the end of June. It gained 5.6 percent between June and the end of December.
Trailing U.S.
Predictions for a weaker euro come as Bloomberg surveys suggest the region’s economy will trail the U.S. by an average 1.8 percentage points from 2013 through 2015, while lagging peers in the Group of 10 by 1.1 percentage points.
ECB President Mario Draghi said Dec. 5 that interest rates will be kept low “for an extended period.” Fed policy makers will cut their monthly bond purchases in $10 billion increments over the next seven meetings before ending the program in December 2014, according to the median forecast of analysts surveyed by Bloomberg. The U.S. central bank said Dec. 18 it would pare the program to $75 billion a month, from $85 billion.
Strategists see the euro dropping, too, against the yen and pound, whose economies are also forecast to beat growth in the $12.2 trillion euro area. The euro region’s economy will trail Japan’s by 0.6 percentage point this year and Britain’s by 1.4 percentage points, Bloomberg surveys predict.
Yen, Sterling
The euro will tumble about 5 percent to 137 yen by the end of this year, from 143.35 today, according to the median prediction of more than 30 analysts. It jumped 26 percent versus its Japanese counterpart during 2013. Against sterling, the euro will slide about 2.5 percent to 81 pence from 83.18 pence, wiping out last year’s 2.3 percent gain.
Demand for euro-denominated assets was also buoyed as the ECB’s balance sheet shrank to 2.3 trillion euros ($3.2 trillion) as of Dec. 27, from a peak of 3.1 trillion euros in June 2012 after banksrepaid almost half the 1 trillion euros of emergency loans provided by the ECB under two longer-term refinancing operations, or LTROs, in December 2011 and February 2012 to avert a credit crunch. The Fed’s balance sheet rose to $4.03 trillion from $856 billion at the start of 2007.
At $860 billion, the gap between the assets of the central banks is the most since member states formed the ECB in 1998 and introduced the euro in 1999. Latvia became the 18th member yesterday.
Fading Support
Whatever support the euro got from a smaller ECB balance sheet will fade in the second half as policy makers maintain accommodative policy and the Fed “begins to more meaningfully stabilize its balance sheet,” according to Robert Sinche, a global strategist at Pierpont Securities Holdings LLC in Stamford, Connecticut. He expects the euro to trade at $1.30 or lower by the end of 2014.
“There has been a significant downward adjustment in the size of the ECB’s relative balance sheet and that has been a factor that helped the euro stay stronger than people generally expected,” Sinche said in a Dec. 30 interview. “If we look ahead into 2014, we do think the interest-rate advantage is maintained in favor of the dollar and maybe even widen a bit more. The balance-sheet effect will fade as a support.”
Bond yields are moving further in favor of the greenback, with the extra payout that investors get for holding Treasury 10-year notes instead of similar securities issued by Germany, Europe’s largest economy, climbing to 110 basis points at the end of last year, the most since July 2006. The spread has averaged 21 basis points since the start of 2007, and was 90 basis points in favor of the German debt at the end of 2008.
Draghi’s Pledge
Since Draghi said in July 2012 that the ECB was “ready to do whatever it takes” to preserve the euro, the currency has climbed 12 percent versus the dollar, having slipped 7.2 percent in the six months prior to him comments.
The ECB’s latest rate cut on Nov. 7 was predicted by just three of 70 economists surveyed by Bloomberg, and came a week after a report showed consumer-price inflation (ECCPEMUY)slowed to 0.7 percent that month, the lowest since November 2009.
Inflation accelerated the following month to an annual 0.9 percent, compared with the ECB’s 2 percent target. During the December meeting, officials briefly debated pushing the deposit rate -- the amount they pay lenders for parking cash at the central bank overnight -- to less than zero, Draghi said at a press conference afterward.
German Pessimism
While the euro is little changed from where it was when Draghi took over the ECB from Jean-Claude Trichet in November 2011, the region’s economy contracted for six consecutive quarters starting at the end of that year.
It only returned to growth last year, expanding 0.3 percent and 0.1 percent in the June and September quarters. It will grow 1 percent this year, compared with 2.6 percent for the U.S., according to Bloomberg economist surveys.
That’s fueling pessimism toward the euro, with 70 percent of German companies responding to a Commerzbank AG survey expecting it to weaken versus the dollar over 12 months, the biggest proportion in six months.
Money managers increased net-short euro positions by 3,765 contracts to 27,462 in the week ended Dec. 24, the most since the five days through Sept. 3, according to the Washington-based Commodity Futures Trading Commission. That was biggest increase since the period ended Nov. 5.
“U.S. growth will be better than that in the euro zone and the dollar can win back some ground,” Jane Foley, a senior currency strategist at Rabobank International in London, who predicted in June that the euro would stay little changed in the second half, said Dec. 19. Foley sees the euro slipping to $1.28 by the end of the year, “which is the most bullish on the dollar I’ve been in years.”
To contact the reporter on this story: Lukanyo Mnyanda in Edinburgh atlmnyanda@bloomberg.net
To contact the editor responsible for this story: Paul Dobson at pdobson2@bloomberg.net
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