(Bloomberg) — Currency traders are preparing for a world where one euro is worth less than a dollar.
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The shared currency is flirting with hitting parity against the greenback for the first time since 2002. Now that decades of historical support levels have been broken during this month’s slump, the market’s focus is turning to just how low it could go.
“1.00 is probably the biggest psychological level around in FX and fireworks look likely,” said ING Groep NV strategists led by Chris Turner. “Were 1.00 to break we would expect volatility to pick up sharply and most likely euro-dollar to gap lower.”
The next stop could be $0.9850, a level that the latest round of options bets signals as a potential short-term bottom. According to data from the Depository Trust & Clearing Corporation, investors were not looking to add sizable exposure beyond parity last month. Since July 1 however, bearish wagers have also been concentrated on lower strikes, with $0.95 slowly becoming a favorite play for options traders.
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The currency’s downward spiral has been swift and brutal, given it was trading around $1.15 in February. Russia’s invasion of Ukraine has worsened the outlook for growth in the euro zone and pushed up the cost of its energy imports, while a string of increasingly-large Federal Reserve interest-rate hikes has supercharged the dollar.
That leaves the European Central Bank in a bind. It has so far resisted the kind of aggressive policy tightening deployed by central banks across the world, signaling it will raise borrowing costs by a quarter-point later this month. That is likely to maintain a widening rate differential that will keep the pressure on the common currency.
Some warn a chaotic descent taking the euro even lower could be in the cards. Technically, there is little support below parity until its January 2000 low at $0.9668.
Euro at Parity Could Turn Out to Be a Timid Prediction
Others are also pondering where the bottom is. George Saravelos, head of currency research at Deutsche Bank AG, said a plunge to $0.95-$0.97 would match historical extreme dislocations seen in currency markets since the end of Bretton Woods in 1971. Nomura International Plc strategists warn of a “non-linear” slide to $0.95.
“The euro could first test support levels set in 2002 of around 0.9613 to 0.9863,” said Nomura’s Jordan Rochester. “But after 20 years these support levels will likely have few barriers in place, insufficient to offset the power of the macro flows driving this move at least.”
According to Bloomberg’s options-pricing model, the euro holds a 52% probability of touching parity within the next 30 days and a one-in-four chance that it hits $0.95 by year-end. That’s making it the most costly to hedge against further deep falls since the start of the war in Ukraine.
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