Justin Pugsley - Justin has over 20 years experience writing about markets, economics and finance. He has worked for a number of leading media organisations such as Agence France Presse (AFP), Dow Jones, Wall Street Journal, Thomson-Reuters, British Sky Broadcasting and McGrawHill.
Justin Pugsley
Justin has over 20 years experience writing about markets, economics and finance. He has worked for a number of leading media organisations such as Agence France Presse (AFP), Dow Jones, Wall Street Journal, Thomson-Reuters, British Sky Broadcasting and McGrawHill.
Profile

Forex markets: is the divergence trade dead?

Something unusual happened in the global economy. During the first quarter of this year, the Eurozone's economy grew at a faster pace than the US one, which puts a question mark on the divergence theme that has been driving forex markets for the last couple of years.

Or does it? During Q1, 2015 the Eurozone managed to notch up 0.4% growth with a big contribution coming from Spain and traditional laggards France and Italy. The US by contrast only managed 0.2% during the same period.

In the meantime, US interest rate rises keep getting put further and further back. That certainly undermines one leg of the divergence story, at least from a monetary perspective. This would justify recent USD softness versus other currencies such as the EUR. It's also worth bearing in mind that the Eurozone runs a very substantial current account surplus, which is supportive.

 

EUR/USD – under pressure in recent days

 

Heading for a range?

However, the recent slowdown in the US is unlikely to be leading back to recession. Q2 figures should show some improvement on Q1, which was impacted by bad weather and possibly even the strong USD, which many large US companies have been complaining about.

The Eurozone, meanwhile, is likely to have received a strong boost from a cheaper EUR and is getting a temporary shot in the arm from the European Central Bank's quantitative easing programme. Cheaper oil is also likely to be helping the Eurozone economy, which unlike the US, has no major indigenous oil industry of its own.

So whereas the divergence story has lost some of its zest recently it's unlikely to be completely dead. There appears to be some convergence taking place as would be expected – the US tends to lead the rest of the world when it comes to economic cycles, therefore the Eurozone should be catching up.

Even if the first US interest rate rise is delayed until late this year / early next year, the ECB's quantitative easing programme looks set to run until September 2016 and that is a negative for the single currency. Though the USD tends not to rally that hard when rate rises start coming through.

It's possible that EUR/USD will bounce around in a range of 1.0500-1.1500 until a clearer picture emerges as to what's happening in the respective economies of the US and the Eurozone and whether or not they're converging or still on a divergent path.

 

By Justin Pugsley, Markets Analyst, MahiFX

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