On March 10, 2016, the European Central Bank (ECB) announced their current monetary policy decision.
The financial markets heard that they were cutting interest rates in the eurozone, expanding its money printing program, and reducing a key deposit rate further into negative territory.
The intention of all this was to revive the economy and fend off deflation.
Traditionally, when rates are cut, it’s viewed as negative for a currency.
But their announcement went further than economists had expected.
They cut the eurozone’s main interest rate from 0.05% to zero, which initially prompted a sharp drop in the euro.
However, it was their comment near the end of the announcement that changed everything.
Here’s what Mario Draghi, the ECB chief said:
“From today’s perspective and taking into account the support of our measures to growth and inflation, we don’t anticipate that it will be necessary to reduce rates further. Of course, new facts can change the situation and the outlook.”
Traders around the world interpreted that to mean an end to the cuts, so the market jumped up 100s of pips.
However, the strength the EURO gained off of that comment was baseless.
That initial strength came from the idea they had ended their cutting cycle, but that should have been negated by the statement “unless necessary.”
Fast forward a week to March 16, 2016, the Federal Reserve announced they would keep its short-term interest rates unchanged, noting that “global economic and financial developments continue to pose risks” to the U.S. economy.
Although this was in line with market consensus, there was a modest surprise.
Their guidance on future rate hikes was more dovish than expected, leading to a modest rally in the S&P and a weakening of the dollar.
As for inflation, Fed Chair Janet Yellen said that she was not convinced by apparent signs of a pickup in inflation.
But she also conceded that inflation is much weaker than it had expected just a few months ago.
Previously, the FOMC had projected a likely four quarter-point interest rate increases this year.
But in their new predictions, they indicated they expect the rate to end the year at about 0.9 percent, implying no more than two increases.
In my opinion, the FED is losing their credibility. After preaching data dependence for months and having months of good data they shocked the world when they came out extremely dovish.
And I’m not the only one.
UniCredit economist, Harm Bandholz said, “The Fed is in our view increasingly falling behind the curve.”
And Ian Shepherdson of Pantheon Macroeconomics said: “Denial only works up to the point where the data are unambiguously telling the opposite story; that point is not far off.”
And currencies specialist Kit Juckes of Societe Generale said: “We and most market participants expected something slightly more hawkish that would send a stronger signal that rates could rise again in mid-year.”
To me, it looks like they are simply trying to talk the dollar down.
I believe the gains we’re seeing in the Euro are simply shadow gains.
The bottom line is this: The US economy is still growing and improving.
And both reasons the Euro rallied against the dollar were not justified.
Ultimately, what we’re currently seeing is a traditional short squeeze.
Long term, baring major market interruptions, I see the Euro headed for parity with the dollar.
Which is why I’m short the Euro.
– Dustin Pass
P.S. If you would like to short the EURUSD too, look for new entries from 1.1100 or higher.