Euro strengthens against US dollar

Towards the end of the second quarter, the US dollar erased all of its 2019 gains after the Dollar Index (DXY) collapsed through the psychological level of 96 before climbing back up again at the time of writing.
The currency was squeezed by investor sentiment following the Federal Reserve's cautious stance as the US central bank moves from an interest-rate hike pause towards an interest-rate cut.
The Euro strengthened against its rival the US dollar, rising to a three-month high and likely setting the tone for the third quarter. Despite US President Donald Trump's obvious frustration towards European Central Bank Chief Mario Draghi on what the president reportedly feels has been a deliberate devaluation of the Euro in recent months, the ECB appears set to continue a monetary easing bias and even potentially intensify its negative interest-rate policies for the Eurozone. What does this set of circumstances mean for the currency pair in the third quarter?
Both the Eurozone and the US face underlying economic headwinds in Q3, implying that the US dollar and Euro have weaknesses as well as strengths going forward. Business sentiment in Germany is becoming increasingly pessimistic, while conditions in the Eurozone's manufacturing sector have been deteriorating for five consecutive months since February. Weighing on Eurozone market sentiment is the threat of trade disputes between the US and China eating further into global growth momentum, with Italy and France's luxury goods sectors looking at slowdown threats and sales revenue losses in China. Brexit is still casting a cloud over the Eurozone's short-term prospects as the UK waits for a new Prime Minister.
In the US, jobs data for May flashed a warning signal when they came in much weaker than expected. Trade disputes with China have negatively affected the agricultural sector, particularly soya bean exports which sank this year in the wake of a 25 per cent increase in import duties. Coming on top of the Federal Reserve's intensifying caution, the US dollar may stay under the pressure of a high tariff environment with China for the short term encouraging expectations that the Federal Reserve will need to cut US interest rates in response to economic headwinds. Further weakness in the US dollar ahead would ultimately continue to encourage additional strength in the Euro, along with the US dollar's global counterparts elsewhere.
At the time of writing the G20 summit lies just ahead with hopes of a possible trade truce between the US and China as global trade concerns top the group's agenda. Chinese President Xi Jinping and President Trump are due to meet on the summit's sidelines, and if there are positive headlines it should turn market sentiment from negative to positive. Given that trade differences and protectionism in the world's largest economies are the root cause of global slowdown fears and symptoms, a high-profile 'good meeting' between both leaders would lift hopes of an eventual trade deal and get the US and China back to the negotiating table. This is another potential outcome that would be seen as likely encouragement for the Euro to extend higher, as a result of improved investor confidence in the global economy.
In the best-case scenario, positive messages from the two leaders would be just that - positive messages. There would still be the prospect of long-drawn out negotiations which are currently at a standstill. So essentially, "good headlines" risk not being digested by the market positively over the long-run, unless there are tangible outcomes from the meeting between the leaders of the two most important economies in the world.
Needless to say, any negative signals from the Trump-Xi meeting would spark risk-aversion and strengthen the US dollar as a safe-haven asset, with the likely impact on the Euro that it would risk being dragged lower. The third quarter for the EURUSD ultimately looks like it will currently be shaped by four key forces: trade tensions, US Federal Reserve and ECB caution, and global slowdown fears, with the mixture of the above keeping both the US dollar and the Euro under pressure in different scenarios.
- The writer is the chief market strategist at FXTM