In the world of foreign exchange, one of the most widely traded currency pairs is the Euro versus the US Dollar (EUR/USD). And right now, conditions are aligning that may encourage traders to bet on this pair falling in value.
Since the start of 2023, EUR/USD has largely traded within a range of 1.05 to 1.10. This relative stability masks what was an eventful 2022, which saw the pair drop from parity (1.00) to as low as 0.95 by the end of the year. During the second half of last year and into early 2023, traders were consistently betting on the pair rising back above parity as inflation differentials and policy expectations shifted.
However, the interest rate gap between the Eurozone and the US is once again coming into focus. With the Federal Reserve expected to continue raising rates and the European Central Bank likely to lag behind, the current 1.5% interest rate gap is predicted to widen further. This is reflected in the one-year forward swap, which has risen from around 150 points to nearly 200 points, indicating an increased expectation of EUR/USD depreciation over the next year.
In practical terms, this means that traders can take advantage of the interest rate differential by selling EUR/USD and holding the position to bank the “carry”. The reduced risk in the foreign exchange market, compared to the volatility of 2022, makes this an attractive strategy. Additionally, the current risk-on sentiment in wider financial markets suits carry trades, where investors borrow in a low-yielding currency to invest in higher-yielding assets.
Of course, there are always risks to consider. Unexpected shifts in central bank policies or economic surprises could disrupt the dynamic. But for now, the stage is set for traders to take advantage of the interest rate gap and bet on EUR/USD drifting lower. With the carry trade back in fashion, we may see increased downward pressure on the pair in the coming months.
So, for bitcoiners looking to diversify their portfolios or hedge their currency exposure, shorting EUR/USD could be a strategy worth considering. Just remember, as with any trading decision, thorough research and risk management are essential.
