All Trade Ideas and trading scenarios found on FX360.com are hypothetical. FX360.com has not placed these Ideas in a live trading environment. Forex Trading involves high risks, with the potential for substantial losses that exceed your initial deposit and is not suitable for all persons. Past performance is not necessarily indicative of futures results.

EUR: Why Post ECB Relief Rally May not Last and Draghi

Last updated 10/6/2011 9:35 AM ET (GMT -5) 2 Comments

• Share this:

Kathy Lien

Director of Currency Research, GFT

Although the European Central Bank left interest rates unchanged at 1.50 percent this morning, they did not to hesitate to announce a number of new liquidity boosting measures.  In the last press conference of his career at the ECB, Trichet did not blink when he introduced four new ways to ease the tensions in the financial markets and encourage banks to lend. The tone of the ECB press conference was extremely decisively with Trichet repeating “also decided…” enough times for investors to realize that even though they did not lower rates, they have taken enough steps to push yields lower and engage in quasi QE. It also suggests that the only reason why the ECB left rates unchanged was to let his successor Mario Draghi start his term with a bang by making the big announcement at his first press conference. With speculators aggressively short euros ahead of the ECB meeting, the lack of a rate cut and the central bank’s decision to forgo widening the interest rate corridor has led to short covering in the euro. Although the euro could extend its gains, we do not believe that the relief rally in currency pair will turn into a full fledged reversal because the ECB’s overall pessimism and their aggressive measures to boost liquidity points to lower interest rates next month.  With the downside risks to the economy “intensifying” and inflation expected to ease next year, the central bank realized that they cannot afford to sit by idly for another month particularly since they are moving into a period when Greece will be quickly running out of money causing widespread volatility and strains in the financial markets. For these reasons, the ECB announced the following new measures today and is expected to do more once Mario Draghi takes office. 

1)      Two LTRO - Conducting two long term refinancing operations (LTRO) in the form of 12 and 13 month loans as fixed rate tenders

2)      Continue Conducting its Main Refinancing Operation (MRO)

3)      Offer 3 month LTROs

4)      CBPP2 - Introducing a new EU40 billion Covered Bond Purchase Program (CBPP2)

By reintroducing a 12 month facility, the ECB would get cash into the hands of banks until at least July 2012. Restarting the covered bond purchase program would offload some of the chunkier elements on bank balance sheets and free up capital for them to lend.

These measures will help ease the strains in the market but more involvement by the ECB is needed to end the sovereign debt crisis. Considering that Trichet refused to disclose the number of members favoring a rate cut and that growth will be “very moderate in the second half of the year” we expect more traders to position for lower rates in November. 

What to Expect from Draghi

Starting next month, Mario Draghi will be inheriting the job of ECB President from Jean-Claude Trichet. The former President of the Bank of Italy and an American-trained economist with a background in both the public and private sector has a tremendous amount of experience and is said to be able to command the same respect as his predecessor from central bankers and policymakers around the world.   He is oftentimes considered a thoughtful participant who is particularly skillful at guiding groups towards an agreement and this skill will be extremely valuable in his new role. Trichet has been known for his public clashes with politicians and given his reputation Draghi may be more conciliatory which could mean a more open mind towards the ECB’s involvement in the EU’s rescue plans. Draghi also comes off far less passionate than Trichet in public suggesting that he could also be less direct and more careful in signaling potential changes to monetary policy. This is a characteristic of Trichet that we will miss dearly and we will know quickly whether Draghi adopts the same attitude after his first monetary policy press conference in November. 

The information, including Commentary and Trade Ideas, provided on FX360.com should not be relied upon as a substitute for extensive independent research which should be performed before making your investment decisions. Global Forex Trading and FX360 .com is merely providing this information for your general information. The information and opinions presented do not take into account any particular individual’s investment objectives, financial situation, or needs. All investors should obtain advice based on their unique situation before making any investment decision and should tailor the trade size and leverage of their trading to their personal risk appetite. Any projections or views of the market provided by FX360.com may not prove to be accurate.

The views of the authors and analysts are not necessarily those of Global Forex Trading, its owners, officers, agents or other employees. FX360.com and the currency research team will not be responsible for any losses incurred on investments made by readers and clients as a result of any information contained on FX360.com. Global Forex Trading and the currency research team do not render investment, legal, accounting, tax, or other professional advice. If investment, legal, tax, or other expert assistance is required, the services of a competent professional should be sought.

• Share this:

Comments (2)

Darkdoji

October 06, 2011 at 01:12 PM ET

Very short to the point and most useful review of the latest ECB policy. What would be nice (may be planned for elsewhere?) is the role that USD strength or the lack thereof will play from time to time in valuing the pair. Clearly, both currencies are more or less in the same boat now - so how to account for what will most account for fluctuations and when, between the pair become crucial now (cf. Eur/Gbp). On Draghi - we will just have to wait and see how he fits the bill. But thanks - the best and most direct piece i have read on this topic - and probably the most useful.

FXTC

October 06, 2011 at 06:03 PM ET

Kathy said investors will go back to QE3 mode, lifting the Euro. That was in September. Yeah. Thanks to my stop. This time I’ll buy into a rally.

Add Your Comment

Please login to post a comment or sign up for an FX360® account.

Loading...

About The Author

Kathy Lien began her FX trading career 10 years ago at J.P. Morgan Chase. After graduating New York University’s Leonard Stern School of Business at the age of 18, Kathy joined the bank's interbank FX trading desk and eventually moved to the cross markets proprietary trading desk. In the interbank market, her ability to create solid fundamental and technical analysis from the myriad of information on the market helped her trade forex spot and options. Her experience eventually led her to be chief strategist at Daily FX where she worked until she joined GFT in 2008.

With her knowledge of forex, as well as her experience trading other products, such as interest rate derivates, bonds, equities, and futures, Lien has built a reputation as an international currency analyst. She is frequently quoted on CNBC, Bloomberg, Fox Business and Reuters. Lien has also written for publications like Active Trader, Futures, and SFO magazine. She is the author of the newly updated Day Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, and the co-author of Millionaire Traders: How Everyday People Are Beating Wall Street at Its Own Game with Boris Schlossberg.

To buy Kathy’s newly updated Day Trading and Swing Trading the Currency Market: Technical and Fundamental Strategies to Profit from Market Moves, click here.