EUR: Stretched Short-Term Valuation and European Equities Underperformance

EUR: Stretched short-term valuation

European equities underperformed yesterday (while US stocks held up) on the back of Chinese data disappointment. Normally, that would translate into a weaker EUR/USD, not just due to the euro’s (positive) and dollar’s (negative) opposite to China’s growth outlook, but also because of EUR/USD’s elevated beta to eurozone/US relative equity performance.

In our short-term financial fair value model, EUR/USD overvaluation has exceeded 3.0% on the back of the pair’s unusual moves, an indication of how the FX market is pricing in a disinflationary risk premium into the dollar (i.e. larger than what is factored in by rates and equities).

A speech by ECB member Francois Villeroy is the only event to watch in the eurozone today. EUR/USD kept rising in morning trading, although we suspect gains beyond the 1.1300 mark may prove to be unsustainable for now.