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Euro Outperforms on Solid Inflation Release, Keeps One Eye on Looming French Vote

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The Euro was one of the better performing currencies in the mid-week session as markets digested a set of eagerly-anticipated inflation data.

The data came out exactly in line with market expectations allowing the Euro to recapture some of the ground lost to the Pound and hold gains made against the US Dollar over the course of the preceeding 24 hours.

Data from Eurostat showed inflation rose by 0.8% month-on-month in March, 1.5% year-on-year and 0.7% for Core.

Those betting on a stronger Euro would have however liked a stronger reading.

“Today’s annualized CPI reading shows that inflation across the Eurozone remains steady, if not sluggish, providing the ECB with further justification for delaying policy tightening," says Paul Sirani, Chief Market Analyst at Xtrade. "While inflation plods below the ECB’s 2% benchmark and a French election breathes uncertainty across the continent, we’re unlikely to see any normalisation of monetary policy."

On Tuesday, the EUR/USD pair witnessed a whole cent rise from 1.06 to 1.07 amidst broad-based US Dollar weakness and easing back of fears that one of the two extreme candidates vying for the French presidency will win the upcoming election.

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10% Potential Downside in Euro Complex

The key concern for Euro traders going forward are the risks stemming from the French presidential elections, the first round of which is to be held on Sunday April 23.

The Euro has found support as the two main-stream candidates in the race are seen shoring up their support but the election outcome is subject to a great deal of uncertainty due to a surprise recovery in the polls by the far-left candidate Jean-Luc Melenchon and Francois Fillon.

The candidates are polling within a margin of error in the polls and could therefore still beat Emmanuel Macron and Marine Le Pen to the second round.

Any combination of the four could win.

The most volatile outcome would be a Le Pen vs Melenchon run off as both are euroscetpic.

Nevertheless, neither of the Eurosceptic two are frontrunners to win the eventual presidency.

With less than 5 days to go before the vote, Marine Le Pen’s odds of winning the overall election (both rounds) have fallen further to 23.64%.

Melenchon has also seen his odds fall back to 11.36% from a high of 14% late last week.

Francois Fillon is in second place behind Emmanuel Macron.

A Fillon vs Macron second round run-off would be the best outcome for the Euro which would be expected to rise strongly on the news as both are pro-Euro.

Analysts at Normura expect the Euro to gain by 1.0% if Le Pen fails to get through to the second round and to fall by 1.0% if she succeeds.

The worst outcome for the Euro would be a second-round run-off between Le Pen and Melenchon, as both are anti-EU.

What if Le Pen were to win the second round?

Analysts at Credit Suisse describe this outcome as a "tailrisk scenario" that would amount to a "global shock".

"Our macro strategists recently showed that not surprisingly Eurozone assets would be most responsive in the event of a Le Pen victory. The strategy team estimated that if it were a global shock causing pronounced Euro area credit spread widening, this could translate to as much as a 10% weaker trade weighted Euro," says a note from Credit Suisse dated April 19.

However the base-case scenario remains one in which Le Pen fails.

Accordingly, "we expect European stocks and the EUR to benefit and EUR yields to rise, as the market prices out the risk premium in Eurozone assets and the ECB acquires more space in reducing policy accommodation," says Lefteris Farmakis, a strategist with Credit Suisse in London.




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