(Bloomberg) -- Options traders have turned bearish on the euro as the currency’s rally to a one-year high looks at risk of running out of steam.
One-month risk reversals for the euro-dollar pair have dropped below zero, which shows the premium to protect against a decline in the common currency is starting to rise. This barometer of market positioning and sentiment widened last week to the highest level since late 2020 in favour of the euro.
“The drop in EUR/USD risk reversal suggests that markets increasingly are becoming wary as to the longevity of the rally,” said Kristoffer Kjaer Lumholt, head of FX research at Danske Bank in Copenhagen. Any further gains would be a good opportunity to sell the euro, he said.
The euro’s rally is already sputtering. It fell to $1.1042 on Monday, its lowest since Aug. 19, after surging to a one-year high of $1.1202 last week. An expected improvement in US jobs data due later this week may add to downward pressure as it would temper expectations for aggressive Federal Reserve rate cuts in the coming months, which have weighed on the greenback.
Investors plowed into the euro last month, with hedge funds raising their bets on a stronger euro to the highest in more than a year last week, according to CFTC data. While many in the market used the currency to bet against the dollar on growing speculation that the European Central Bank may deliver fewer interest rate cuts this year than the Fed, these bets could come under fire.
A solid jobs reading could reduce the case for 100 basis points of Fed cuts priced by markets by year-end, said Elias Haddad, a senior markets strategist at Brown Brothers Harriman. The ECB, meanwhile, is gearing up for a second rate reduction in September after an initial cut in June, and investors expect at least one more cut by the end of the year.
“If this week’s US jobs numbers point to a soft landing in the labor market, fed funds futures should adjust higher in favor of the dollar and will curtail net long euro speculative positioning,” Haddad said.
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