Euro-Dollar Money Flows Point to Another Leg Higher for EUR/USD, Nomura Says

- EUR/USD flows begin to favour EUR gains Nomura says.
- Equity influx, external USD hedging hints of EUR upside.
- But GBP/USD offers better exposure to Euro area revival.

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• EUR/USD spot at publication: 1.2035
• Bank transfer rates (indicative guide): 1.1612-1.1696
• Money transfer specialist rates (indicative): 1.1949
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The Euro-Dollar rate cooled its heels on Wednesday ahead of a looming European Central Bank (ECB) monetary policy decision, although proxy measures of international investment flows are suggesting scope for another leg higher in the months ahead, according to analysts at Nomura.

Price action came ahead of a 12:45 ECB policy update on Thursday in which the Bank will set out its latest views on the condition and outlook for the Eurozone, the prospects of which have tentatively improved with continental infection trends and signs that vaccinations could soon pick up.

While cooling its heels Europe’s single currency also demonstrated a continued upside impetus when declining an invitation to dip back below 1.20 on Wednesday in price action that coincides closely with indications of tentatively improving investor appetite for Eurozone financial assets.

“In our view, the euro flow picture has been dismal for EUR bulls, but the stage may be set for a reversal right here, right now,” says Jordan Rochester, a strategist at Nomura.

Above: Euro-Dollar at daily intervals, treading water after recapturing 1.20 and overcoming the 50% Fibonacci retracement of January’s downtrend.

Eurozone stock markets and the exchange-traded-funds (ETFs) which offer a low cost and diversified exposures to them have seen a so-far short-lived and tepid increase in demand from overseas investors, according to proxy measures used by the Nomura team.

Nomura’s Rochester said in a research note this week that “it’s too early to gauge how sustained this would be” but that if the bid from overseas investors does continue then the resulting flows would be likely to generate another leg higher for the Euro in the weeks and months ahead.

Euro-Dollar upside may also be aided by knock-on effects of activity in U.S. stock markets where international investors have pushed benchmark indices to yet more new record highs in recent weeks and largely without hedging much of the U.S. Dollar risk that comes with those positions.

“Our proxy measures of FX hedging suggest European investors have yet to increase their USD hedges despite the fall in hedging costs. It’s just a matter of time before they do, in our view, but it does strike us as odd why it hasn’t happened already,” Rochester says.

Above: Nomura proxy analysis of Euro-to-USD equity investor hedging ratios.

International investors who buy U.S. stocks would typically sell U.S. Dollars at the same time in order to prevent their returns being eaten away any depreciation of the American currency, however the greenback has risen thus far in 2021 and partly as a result of deteriorating sentiment toward the Euro.

But more recently the Euro has recovered somewhat and the Dollar has turned lower, while the outlook for the Eurozone economy is at least becoming less downbeat, if not turning for the better.

This could mean it’s only a matter of time before Dollar-buying stock market investors begin selling the greenback in greater quantum in order to lock in as much of a return as they’re able to.

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This would almost certainly be positive for the Euro-Dollar rate, although Nomura’s Rochester prefers buying GBP/USD instead of the Euro as that tends to follow the single currency but is not encumbered by the same degree of economic risks.

GBP/USD and GBP/EUR sometimes do well whenever the trade-weighted Euro looks for a breather, which is effectively what just happened in 2021, and the Euro-Dollar rate is the largest component of the trade-weighted single currency though is followed closely by China’s Renminbi and Pound Sterling.

“We still expect a grind higher rather than another leg lower in EUR/USD. Trade wise we prefer to express the EUR/USD upside view via long GBP/USD and other high beta FX,” Rochester says.

Above: Nomura analysis of vaccination and purchasing manager index trends in Euro Area Vs non-Euro area local economies.