FX Focus - EURUSD – Considerations As A Funding Currency

Since early 2023 when EURUSD recovered from the terms of trade shock on the euro area from the Russia – Ukraine war, the pair has largely been in a 1.0500 – 1.1100 range. Support is mainly underpinned by US dollar’s limited ability to strengthen as speculation builds around accelerated Fed rate cuts. However, the upside is capped by EUR’s vulnerability to weak euro area fundamentals and the resurgence of French and German political risk.
 

Most key economic indicators in the euro area are showing signs of fatigue. German manufacturing remains in recession but the unexpected drop in August’s euro area consumer confidence for the first time since January is even more of a concern given the importance attributed to a consumer confidence recovery by the ECB and German Bundesbank. Meanwhile, the ECB is hamstrung by its single inflation mandate focus that will likely keep them behind the curve in trying to arrest the growth downturn. The potential return of the Trump 2.0 trade heading into the US presidential election in early November also risks an accompanying rise in US – EU trade tensions that could potentially further damage euro area business confidence.
 

French political risk has not fully faded either and may return  when the draft budget is presented to the new parliament later this month in September. The regional elections in Germany added to the political risk premium to the EUR. This is due to a possible shift to the far-right which could cause shifts in regional policies, and rifts within the national coalition which could trigger a change in national fiscal policy, and a reorientation of Germany’s EU and foreign policy.
 

For investors wanting to retain an exposure within Europe over the medium term, their preference could shift towards the sterling.
 

Considerations for the shift:

Investors may also choose to fund purchases of Asian FX via EUR. Australia’s economic credentials remain sound relative to the euro area. The compelling narrative for AUD’s resilience is RBA’s stand-alone hawkishness  as the domestic economy troughs in Q2 vs its peers that have either started cutting rates or are about to. SGD is another currency where the MAS is likely to stay on hold through 2025. But even if it decides to ease financial conditions in October, the move would likely be seen as a modest one-off mid cycle recalibration.