Written by: Simon Derrick | Chief Currency Strategist, BNY Mellon
Ever since European Central Bank (ECB) President Mario Draghi promised in his post meeting press conference on January 21 of this year that "we expect them (key ECB interest rates) to remain at present or lower levels for an extended period of time1", and noted that "it will therefore be necessary to review and possibly reconsider our monetary policy stance at our next meeting in early March when the new staff macroeconomic projections become available2," the possibility of a policy shift on Wednesday had been increasingly factored in by markets.
In the event the consensus proved pretty accurate with regard to the ECB’s main deposit rate which was cut to -0.40 percentage points from -0.30 percentage points but likely underestimated the amount the ECB was set to increase its monthly purchases by (20 billion euro rather than 10 billion euro) and that asset purchases will run until at least March 2017. It was also worth noting that a new series of four targeted longer-term refinancing operations, each with a maturity of four years, is set to be launched from June of this year. Tellingly, Mario Draghi also noted that rates will remain at current or lower levels for an extended period (although he subsequently noted that the bank does not anticipate that it will be necessary to cut rates further, preferring to focus on other measures). If the intention of the ECB board was to help weaken the euro then their work was entirely undone by Mr Draghi's comments about the future path of rates. Nevertheless, it is worth highlighting that the benchmark yield gap between 2-year US and German government paper now stands at 138 basis points roughly the widest it has been since late the summer of 2006.
This comes at a time when positioning data show euro short positions are simply not what they were twelve months ago. Commodity Futures Trading Commission (CFTC) data show that speculative short positions have shrunk sharply since March 2015 when a record short of 226,560 contracts was reached3. As of the last week the net short had shrunk to 68,541 contracts (albeit this was greater than the 46,857 net short contracts position reached in late February). Tellingly, BNY Mellon’s own flow data shows a similar story (albeit not as extreme) with short positions being steadily reduced since the end of 2014.
The point to all this is simple. If the most talked about idea in the currency markets twelve months ago was the possibility of the euro falling below parity against the US dollar then this has largely fallen off the radar while short positioning has been significantly reduced. Despite this, many of the factors that drove this thinking through late 2014 and 2015 don't just remain in place but, arguably have intensified today.