Potential EUR/CAD & AUD/JPY trades

The EUR has become the clear funding currency of choice, with EUR/CAD sellers benefiting nicely last week.

Source: Bloomberg

On Thursday EONIA (or overnight) lending rates in Europe went negative for the first time ever, while in Germany there are negative rates in bunds out to maturities of four years.

This week, the ECB meet in what is shaping up to be the key event risk for capital markets. There is a real possibility that the ECB will cut its three key interest rates, including taking the deposit rates to negative 20 basis points.

As the deposit rate is what they pay banks to hold funds on its balance sheet, a negative rate means they are effectively charging for deposits. This incentivises European banks to move funds overseas – possibly to the UK to avoid the penalty – which, in turn, causes currency outflows.

Technically, EUR/CAD (like EUR/AUD and other EUR crosses) is oversold. Positioning in the EUR has become extreme, so caution is definitely warranted. The pair is currently testing the 38.2% retracement of the 2012 to 2014 rally at 1.4265 and a break here could certainly aid a continuation of the trend.

My preference, however, is to look for a flush out of shorts and work offers into the 1.4390 area – although this is highly optimistic and would require the ECB to take no action this week.

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