EUR/USD has dropped below 1.13 and into technically uncharted territory.
We remain positive on EUR/USD in 2019, but view it as too early to position for this view.
Clients hedging USD assets/income should look for opportunities to gradually increase the hedge ratio via FX forwards if the cross declines below 1.1200.
Six reasons for EUR/USD to stay low for the rest of the year
Today, EUR/USD has broken below the technically important 1.13 level as predicted in FX Strategy - EUR/USD break of 1.13? Yes - and here's why . While we stick to our view that EUR/USD should recover in 2019, we see a host of factors weighing on EUR/USD the rest of the year.
The relative cyclical environment between US and eurozone economies should continue to weigh on EUR/USD near term - see Chart 1 (see also Harr's View: Why eurozone, Scandies slow and what it says about 2019 ).
There is room to price in higher US rates in 2019 (see FI research: Next stop is 3.50% for 10Y US treasury yields ) and relative rates thus remain EUR/USD negative (see Chart 2).
A US-China trade agreement could potentially be USD negative, but a deal is not on the cards before H1 19.
Italian budget concerns have been a contributing factor for a weaker EUR. The Italian government is unlikely to revise its fiscal plans tomorrow when it re-submits the budget to the EU as market pressures have eased, public backing remains strong and as we are now past prominent rating decisions.
Even though investors have added EUR/USD shorts recently - positioning is not in stretched short territory - see IMM Positioning Update - investors add considerable EUR/USD shorts .
Technically, we have taken out key support levels and are now in uncharted territory which opens up for a test of the June'17 bottoms of 1.1110-1.1120 - see Chart 3.
Look to gradually increase USD hedge ratio on dips below 1.12
Overall, in our view, it is too early to go long EUR/USD- especially taking the historically high cost of carry into consideration. That said, the break below 1.13 means that we are both tactically and strategically biased towards buying the cross on dips. Hence, clients hedging USD assets/income should look for opportunities to gradually increase the hedge ratio via FX forwards if the cross declines below 1.1200.
Clients with existing risk reversal hedges should consider restructuring into FX Forwards if the FX forward rate (for the relevant expiry date) drops below the strike on the sold put option.
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