What’s driving G10 currencies?

The FX market is always looked at through the lens of the US dollar. Given that the greenback is one side of around 90% of the FX trades that take place in the market that’s hardly surprising. But is it always correct? For instance, if we look at the past few years, we’d argue that the dominant currency theme has been yen weakness, not US dollar strength.

In contrast, the US dollar has been very stable against the next ‘major’ currency, the euro, in recent years, suggesting that there has not been much to choose between the two, and nor, indeed between the US dollar and other major currencies like the pound and Swiss franc.

However, we know that policymakers in Japan are on the yen’s case. Interest rates are likely to rise further and intervention to prevent further yen weakness is to be expected if US dollar/yen rises to intolerable levels, which might not be far above 160. In short, the yen might stop being the most volatile currency if Japanese policymakers prove successful. Instead, that accolade could go to another currency.

The US dollar is certainly a candidate as the bulls are galvanised by the prospect of a second term for Trump. But so too is the euro as all hope of an economic recovery in the euro zone is going up in smoke and tensions with Russia are reaching new, and potentially dangerous levels.

In short, it looks as if traders and investors should have a two-pronged approach here, which is to buy the US dollar against the euro and on the crosses (with the possible exception of the yen), and to sell the euro against the US dollar and on the crosses, this time including against the yen. A catalyst for these trends might be found in the fact that euro/dollar has broken down below the 1.05 level that has supported the single currency in recent years. With this level vanquished, much of the options-related activity that seemingly helped keep the euro in a narrow range against the US dollar will likely melt away, or at least take a while to dust itself down. In short, what we should find is that volatility begets volatility.

Steve Barrow, Head of Standard Bank G10 Strategy said what he would mean by this is that the pre and post US election rise in volatility that has ultimately crafted this move below 1.05 for euro/dollar should be a spur to even more volatility going forward. One reason why he thinks this is down to the fact that euro/US dollar seems likely to be buffeted by both positive sentiment towards the dollar and negative sentiment towards the euro. Prior to the US election, and prior to this slump in euro zone growth expectations, it seemed that neither currency was subject to particularly aggressive positioning by either the US dollar bulls or euro bears.

It probably looked as if the 1.05-1.10 range that has been in place for much of the period since late 2022 could go on a lot longer still. But all that seems to have changed now. The bullish arguments for the US dollar seem to have improved while bearish sentiment towards the euro has rightly increased. The only question now seems to be just how far euro/US dollar can fall.

Before the election, many analysts suggested that a – likely – Trump victory would push euro/dollar into a 1.0-1.05 range. This has happened. The question now is just how much of this range is likely to be used up. If we set parity at the lower end of the range does this really mean that we see the euro going down to this level, and perhaps even below? The answer is ‘yes’. The momentum for more euro/dollar weakness should continue over what remains of this year and into 2025 and that’s likely to mean a brush with parity. But does it also mean that the euro will fall further over the long haul? Down to the near-95-cent level we saw in 2022 or the 82-cent lows we saw soon after the euro was born. Here we’d have some reservations. In short, euro/US dollar bears should be making hay while the sun shines now but parity might be a good place to take profit.