Euro rises for fourth day despite collapse in sentiment over regional economy

The euro is heading for relative stability and the euro is up 0.06% against the US dollar after rising for the past four days.

The euro’s moves come despite a sudden collapse in investor economic sentiment around Germany and the euro zone, which fell to its lowest level in nearly a year according to the ZEW survey, which may fuel fears that the region is slipping deeper into recession.

The ZEW economic sentiment figures were quite shocking today. The German headline reading collapsed from 19.2 to just 3.6, far from expectations of 17.1. The same was true for the eurozone, with a reading of 9.3, down from 17.9.

This dramatic deterioration came as institutional investors’ sentiment around Germany’s economic outlook, both for the next six months and for the current situation, declined. The ZEW president also said in a comment on the survey results that optimism about the improving economic situation has faded.

Despite the negativity surrounding the region’s economy, the euro is heading for gains that come with the momentum surrounding the possibility of a rapid half-point rate cut by the Federal Reserve, despite core inflation and producer prices accelerating at a faster-than-expected pace in the United States in August.

This scenario has gained a surprising momentum since the beginning of this week’s trading and has become the most likely outcome with a probability of 69%, according to the CME FedWatch Tool. This has deepened the losses for the dollar and Treasury yields.

While the euro may benefit from the fact that this expected rapid rate cut by the Fed may send a negative signal to markets about the health of the US economy. While this narrative has surfaced after the shocking non-farm payrolls figures for July. Therefore, the negative outlook and recession fears may be surrounding both economies and not just the eurozone.

Also, the continuation of the Fed’s aggressive rate cut approach, which may reach a reduction of more than one percentage point by the end of this year, may contribute to the pressure on the yield gap between and real yields to narrow further, which in turn may enhance the euro’s gains.

The yield gap between the US 10-year Treasury bond and its German counterpart is at its lowest level since last August at 1.496%. The real yield gap is more than 1.2% in favor of Treasuries, while the real yield on German bunds has returned to negative territory since more than ten days.