ECB: The flow case for the euro – Deutsche Bank

George Saravelos, Strategist at Deutsche Bank, suggests that today’s ECB meeting does not matter much for the euro and an analysis of the flows driving the euro higher last year points to these being largely beyond the ECB’s control.

Key Quotes

“First, there is Foreign Direct Investment (FDI) flows. From more than 200bn EUR of outflows in 2016, net FDI turned neutral over 2017. As confidence in the European recovery has grown, companies have become more focused on domestic acquisitions, pushing Europe's basic balance materially higher last year.”

“Then we have equity flows. Despite Eurozone equity underperformance what is remarkable is that foreigners’ preference for European stocks remains strong. Net equity inflows rose strongly in 2017. More interestingly our high-frequency ETF data shows that despite the recent sell-off American holdings of European stocks remain remarkably sticky. In fact, foreigners are rotating their holdings from hedged to unhedged exposure to take advantage of a rising euro.”

“Both of the flows discussed above are more dependent on the European growth outlook rather than the ECB. The conclusion cannot of course be that the ECB is not relevant. The “elephant” in the room remains European fixed income outflows which at -400bn EUR just about offset Europe's current account surplus. The sensitivity of these flows to rising European rates should naturally be higher. From a bullish EUR/USD perspective all that is needed is an easing in the pace of outflows to generate further improvements in the basic balance.”

“At today’s ECB meeting the most important signal we will be watching is that the overall path towards policy normalization remain intact. So long as this is the case, we would remain buyers of EUR/USD on dips. The flow “normalization” story has more to run.”