When we last looked at the EUR/USD, it was at a 4-month low, and since then it has continued to fall. Over the past few days the Euro was at its lowest at 1.08660 against the US dollar, a low not seen since April 2017.
This downward trend for the Euro is most likely a result of a rise in carry trading in the forex markets.
Carry trading works by picking two currencies which have a large difference in interest rates and buying the one with the higher rate, and then selling the lower. You are then also paid for making the overnight trade in swaps.
The current lack of volatility in the markets is due to Central Banks deciding to keep interest rates the same. The Federal Reserve has set the interest rate for the USD at 1.75%- the highest amongst the currencies, tied only by the CAD, while the European Central Bank has the Euro at -0.50%.
Usually, a lack of volatility means less trade, but due to the favourable difference in interest rate between the US dollar and the Euro, investors have increasingly looked towards carry trading to make short term profits.
And as a result of the Euro being sold off, it has dropped continuously since the start of the month, leading to an almost 3 year low.
While there are other currency pairs with a favourable interest rate difference, EUR/USD is by far the most traded currency pair, which also makes it the most popular carry trading option. This is most likely why the Euro has dropped so hard compared to other currencies.
However, carry trading is by no means risk free and guaranteed profit. It is an attractive option at the moment due to the lack of volatility in the market, but crises such as the coronavirus still pose a threat to the current stability.
“The EURUSD broke a new yearly low today following 8 days of pressure from short sentiment. The green zones represent areas of support and the lowest zone is supported by prices from September 2019 lows at 1.087. Prices seem to be hesitant around this zone and should the daily candle close below this area, we could well see the market head to 2017 May lows of sub 1.08. “
– Anish Lal, BlackBull Markets.
Watch Anish's video on the EUR/USD here:
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