Euro Seen Reaching One-Year High as ECB May Not Follow Fed Path

(Bloomberg) --

Investors are betting on another rally in the euro as the Federal Reserve is seen weakening the dollar with steeper interest-rate cuts.

The euro has risen more than 3.5% in the past two weeks and a further advance by 3% seems to be in the cards, if options are any guide. Data from the Depository Trust & Clearing Corporation over the previous month show a strong interest for trades that pay out should the euro rise to $1.15, a level unseen since January 2019.

The premium on bullish euro options expiring in six months over bearish ones, a gauge of sentiment, climbed to the highest level in more than a decade this week. That reflects expectations of narrowing rate differentials between the U.S. and the euro area, as well as the unwind of carry trades that used the euro as a funding vehicle.

Bets on swings in the currency over coming weeks suggest that investors are looking for the Fed to cut rates again at its meeting on March 18, and doubts that the European Central Bank will follow suit.

Still, for another leg in the common currency's rally, bulls will need to overcome technical resistance at $1.1200-$1.1250. The euro touched that level on Tuesday before slipping back on Wednesday to trade around $1.1160.

That barrier has resulted in options traders buying a hefty amount of euro calls with a strike at $1.1200. A series of technical resistance levels lie nearby, namely a 14 month-old trendline, the high on Dec. 31 and the currency's 21-month moving average.

Also key for the euro to extend its advance will be a continuation of the higher volatility environment seen lately across the currency market. Higher hedging costs make some carry trades unattractive, while a stronger euro makes the case for offshore investors to address any unhedged debt issuance they may have in the common currency.

• NOTE: Vassilis Karamanis is an FX and rates strategist who writes for Bloomberg. The observations he makes are his own and are not intended as investment advice

To contact the reporter on this story: Vassilis Karamanis in Athens at vkaramanis1@bloomberg.net

To contact the editors responsible for this story: Dana El Baltaji at delbaltaji@bloomberg.net, Neil Chatterjee, Anil Varma

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