Euro vs. U.S. Dollar Forecast 2015

Euro vs. U.S. Dollar ForecastThe euro-to-U.S.-dollar value is headed in a downward direction, despite an improving European economy. Investors should follow the lead of the European Central Bank (ECB) and cease to let economic growth forecasts fool them.

A year ago, the euro was worth US$1.38. As it currently stands, the euro is only worth US$1.10—or 20% less. My euro vs. U.S. dollar forecast calls for an even lower euro wherein parity or lower is in reach.

Europe After 2008

The euro has been on a major decline since the financial crisis took hold. Before global markets crashed, the euro was worth almost US$1.60. Since that peak on April 21, 2008, the European economy has experienced severe economic turmoil—pushing the euro even lower. It has since been a rocky ride to say the least.

Post-2008, the euro area managed to exit from recession in 2010 before diving back into contraction in 2012. In 2014, Europe exited from a recessionary period once again, posting an annual growth rate of 1.3%. (Source: Eurostat, last accessed April 29, 2015.)

Throughout, interest rates trended downward, hitting rock bottom on January 22, 2015. That day, the ECB finally decided to print money under the guise of an expanded asset purchase program to the tune of US$1.3 trillion. (Source: ECB Press Release, January 22, 2015.)

Slower economic growth, lower interest rates, and a relatively strong U.S. dollar have all resulted in a 12-year low for the euro. Some analysts are calling for even more pain, despite an improved economic backdrop—and I agree.

Euro to US Dollar index

Euro vs. U.S. Dollar (EUR/USD) Exchange Rate – April 1999-Present,
Chart courtesy of www.StockCharts.com

Europe in 2015

In my opinion, as of 2015, there are several tailwinds in place pushing the European economy forward. Most notable is the decrease in austerity, lower oil prices, and an accommodative ECB. While these factors are beneficial to Europe, they aren’t of benefit to the euro—at least not in 2015.

The world economy is set to expand at 3.5% this year, with the euro area forecast to hit a 1.5% and 1.6% expansion in 2015 and 2016, respectively. (Source: IMF, last accessed April 29, 2015.)

A slightly better European economy is confirmed by higher retail sales. For the European Union as a whole, with 28 member countries in total, retail sales are growing at 1.9% annually—the fastest pace since 2007. Also as of March 2015, new car registration is up 11% for the 12-month period starting April 2014. In fact, the willingness of consumers to spend money on new vehicles has translated into 19 straight months of higher new vehicle registration figures. (Sources: Eurostat, last accessed April 29, 2015; European Automobile Manufacturers Association, April 16, 2015.)

A stronger economic outlook is confirmed by higher stock indices. Germany’s stock market is up 21%, France’s CAC 40 is 22% higher, and London’s FTSE 100 is up nine percent year-to-date. But the euro, as gauged by the EUR/USD exchange rate, has continued to decline, down 21% year-to-date.

The European Central Bank

The biggest factor supporting a continued decline in the EUR/USD is the accommodative ECB, relative to a hawkish Federal Reserve looking to raise interest rates. The ECB’s January 22, 2015 announcement signaled Europe’s willingness to do whatever it takes to revive inflation, which was running at 0.4% in 2014, and is expected to clock a meager 0.1% in 2015.

The ECB’s commitment to do whatever it takes is supported by the 60 billion euros set aside for monthly bond purchases. The asset purchase program, which will run through September 2016, is a measure of last resort. Interest rates cannot go lower as they are already negative. Therefore, this quantitative easing program and money printing have to continue until inflation in the euro blips higher.

With a commitment to an unprecedented amount of printing, it is no wonder the euro has declined 20% year-to-date, trading at US$1.10 as of April 29, 2015. However, it is likely that the euro will fall even further, as the U.S. Federal Reserve starts raising interest rates at its June or September 2015 meeting.

Not only will the U.S. dollar be supported by relatively better economics, as signaled by higher rates, but also by higher-yielding U.S. treasuries. Who would want to purchase a five-year euro area government bond returning -0.10% when U.S. treasuries of equivalent duration already offer 1.32%? Such a trade would be hard to justify. It would push the U.S. dollar higher and the euro lower.

EUR-USD Forecast for 2015

I believe the ultra-loose, whatever-it-takes-to-get-inflation-up stance taken by the ECB can easily drive the euro to parity with the U.S. dollar. That is, one euro is likely to be worth US$1.00 by the end of 2015. That’s about nine percent less than today’s value.

Of course, if the ECB fails to increase inflation from the March 2015 level of -0.1%, then the euro could fall as far as historical lows of US$0.85 in the near term. Let’s remember that quantitative easing through asset purchases is a highly unconventional measure. The ECB would have much rather stopped at lowering interest rates. If this program fails and deflation takes hold in the eurozone, then the euro will overshoot to the downside—even within the most pessimistic estimates.