The euro currency’s future has become less certain

04 March 2022
Market Insight by Belal Mohammed Khan
Reading time: 2 minutes

The significance of the recent horrific developments in Eastern Europe is difficult to fathom but easier to do when taken in a historical context. In short, the events taking place are extraordinarily significant with far-reaching, long-lasting implications in almost all spheres of society, local, regional and global.

Regarding currencies, recent developments may very well suggest a need to reconsider the place of the Euro currency in the global currency hierarchy (see chart below). If the geopolitical risk calculus has changed worldwide due to recent events, it has especially and most significantly altered for the European continent.

As the second-highest traded volume currency, behind the USD, the EUR has played a significant role in global markets and global reserve portfolios. In the future, with the security structure of the European continent undergoing a seismic shift, the outlook for this second most crucial reserve currency has become less certain. Indeed, if our assertion that our world is undergoing a clearer bifurcation and that geopolitical divisions are becoming more entrenched as the world seems to be more clearly moving from unipolarity to bipolarity, the currency composition of global trade and central bank reserves may be under change as well. This is a long-term trend which we expect may play out in the quarters and years ahead.

Thus, we believe investors with long Euro currency holdings, exposure, may need to rethink their currency allocation. Indeed, the Euro currency we believe is likely to come under sustained pressure versus other major development market currencies, especially such currencies that are firstly far geographically from the current geopolitical crisis and commodity price risk exposure and secondly, the currencies of countries with a higher and more favorable interest rate outlook. ECB data on the Euro nominal effective exchange rate (see second chart below) shows how this currency has behaved during recent history during the absence of any external severe security challenges to the euro area. With seismic shifts taking place, sustaining such historically elevated levels seems tremendously challenging.

We have looked at a variety of currencies and found that both at the currency pair level as well as with currency baskets, equally or GDP weighted, via cash or OTC option structures, there are several ways in which to reposition currency exposure and portfolios for a world in which the euro currency’s future has become less certain.

Global Currency Turnover

Top currencies by % of turnover of OTC FX – net basis

Global Currency Turnover
Date Source: BIS, Geneva Management Group chart

Euro Nominal Effective Exchange Rate

As of March 3, 2022

Euro Nominal Effective Exchange Rate
Date Source: ECB

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