EURUSD parity - what to know❓

All eyes are on EURUSD today as the main currency pair hovers near parity. The pair has briefly traded below the 1.00 level but is yet to deliver a decisive downside breakout. Reasons that are fuelling the drop are not new but little was done by ECB to prevent it. Geopolitical issues also play a role with potential to make the situation even worse. What are the reasons behind EURUSD drop to parity and what to watch ahead?

Monetary policy divergence and recession risk in Europe fuels EURUSD drop

EURUSD has been sliding for almost a year and a half, dropping from over-1.22 to 1.00 now during the period. What fuelled this drop? Monetary policy played a big role. While the Fed communicated its intention to start normalizing policy well in advance, ECB insisted that it was not the time for such moves. Indeed, the ECB has taken a hawkish turn recently but it is yet to deliver its first rate hike. Meanwhile, Fed has launched a quick tightening cycle that keeps accelerating.

There are also other factors adding to EUR underperformance. Europe bears an unproportionally higher risk than the United States when Russia-Ukraine war is considered. Russia has limited natural gas flows to Europe and there is a real risk that a complete halt may occur soon. This would be a big blow to Europe as some countries, like for example Germany, are highly dependent on Russian gas. Halt of gas supplies would almost certainly lead to a recession.

Yields in Europe (Germany on the chart) and the United States both rose. However, the jump in US 2-year yields outpaced the jump in German yields. Pair at current levels looks to be priced in-line with the situation on the bond market. Trend also looks justified. Source: Bloomberg

Please be aware that the presented data refers to the past performance data and as such is not a reliable indicator of future performance.

July 21, 2022 - day to watch for EUR traders

Those two factors mentioned above - monetary policy divergence and energy supplies - are two main drivers for EUR right now. The next ECB meeting that is expected to result in a 25 basis point rate hike will be held on July 21, 2022. Central bank may offer some rate path guidance for emerging from the negative rates regime with some ECB members pointing that it may happen as soon as September. On the same day a 10-day maintenance of Nord Stream 1 gas pipeline is scheduled to end.

If gas flows via Nord Stream 1 are not resumed after maintenance it would likely mean that Europe is heading for a recession. This would not impact the ECB decision at a meeting next week but may have a serious impact on policy thereafter and may put the end of the negative rate environment under question. A recession may cause the ECB to pause or end its tightening cycle before it even began in full as lifting borrowing costs at times of serious energy crisis would have devastating impact on more indebted eurozone economies.

A look at history

This is not the first time when a single euro is cheaper than a single US dollar. Such a situation took place in 2000-2001. Taking a look at the chart we can see that a drop below parity took place less than 2 months before global stock markets peaked and the dot-com bubble burst. EURUSD traded below 1.00 mark almost during the entire 2000-2003 bear market. Recovery of the main currency pair back above this level preceded market bottom by a few months. Of course, historical results cannot be taken as guarantee of future returns but a look at them may offer us some hints. Note that the fundamental situation, although completely different, is in some terms similar - we are once again heading for a crisis, and potentially a global recession.

EURUSD dropped below 1.00 mark in January 2000, less than 2 months before global stock markets peaked. Main currency pair traded below parity almost during the entire bear market (vertical, purple lines on the chart) and recovered back above it less than 4 months before markets bottomed out. Source: xStation5

Please be aware that the presented data refers to the past performance data and as such is not a reliable indicator of future performance.​​​​​​​

Technical look at the market

EURUSD has been trading in a downward move for almost a year and a half. Taking a look at the main currency pair from a more short-term perspective (H4 interval), we can see that it has been trading in a downward channel since March 2022. The pair failed to break above the upper limit of the channel in late-June (orange circle) and another leg lower started. A lower limit of the channel in the 1.00 area is limiting further downward moves but as the fundamental situation favours USD over EUR, pressure on the pair may continue to intensify. A drop below the range of the channel could, in theory, trigger a drop equal to a width of the channel - in this case around 5 cents. This would hint at a drop towards the 0.95 area, where local highs from 2000 and 2001 as well as local lows from 2002 can be found.

Source: xStation5

​​​​​​​Please be aware that the presented data refers to the past performance data and as such is not a reliable indicator of future performance.​​​​​​​