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Euro hits four year low on expectation of QE

The euro has taken another downward lurch today, sinking to a four-and-a-half-year low against the dollar on clear indications that the European Central Bank will soon embark on outright money-printing.

Yields on government bonds issued by the euro zone’s heavily indebted southern member states – which the bank would be expected to buy in any such campaign of quantitative easing – fell after ECB President Mario Draghi said the risk of it falling short of its mandate on inflation targeting had risen compared to six months ago.

Stock markets in Europe turned lower after initial gains, driven by a downward revision of purchasing manager surveys for France and the euro zone as a whole. 

The divergence expected between European and US monetary policy in 2015 dominated currency markets’ thinking last year, and Draghi’s warning the ECB was preparing for more action added to expectations that it will step in soon.

“The risk is on the downside for the euro after these comments,” said Niels Christensen, an FX strategist at Nordea in Copenhagen.

“It could break below $ 1.20 since there is a risk of a very low inflation reading out of the euro zone next week. That will just add to pressure on the ECB to take measures when it meets later this month.”

The ECB, which targets inflation at just below 2%, next meets on policy on 22 January. Euro zone inflation next Wednesday is forecast to show prices falling in annual terms.

The interest rate premium investors demand to buy Spanish over German bonds dipped below 100 basis points for the first time since April 2010, reflecting expectations yields in Spain, Italy and Portugal would fall in any QE campaign.

The euro sank as far as $ 1.2035, depths last seen in mid-2010, while the dollar notched up a near nine-year peak against a basket of major currencies .
 
Oil prices remained fragile after a savaging in the second half of 2014. US crude futures CLc1 added 20 cents to $ 53.46 a barrel, while Brent fell 13 cents to $ 57.20.

“Many of the themes that were in vogue heading into the end of the year remain very much firmly in place,” said Callum Henderson, global head of FX research for Standard Chartered Bank in Singapore. “The US recovery is not stellar but it’s certainly materially better than in most places in the G10.”

China yesterday reported its official Purchasing Managers’ Index (PMI) slipped to 50.1 in December, the lowest level of 2014 and barely in expansion territory. That blow was softened by a rise in the service sector PMI to 54.1.

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