There is potential divergence setting up between Europe and Australia favouring EURAUD upside. The reasons are as follows:
Reasons for euro strength
Europe has falling COVID-19 cases. Germany’s COVID-19 crucial R rate is under the important 1.0 number. This is evidence that the disease is shrinking in its spread. The R number is the average number of secondary infections produced by 1 infected person. If a country has an R number of 1 it means that, on average, an additional 1 person will be infected by the patient. If a country has an R number of 0.5 that means for every 2 infected people there will be only one more infected person. The lower the R number the better. An R number below 1 shows that the spread of the virus is in contraction.
The other reason for EUR strength is due to the proposed PEPP programme of €1.35+ trillion alongside the proposed €750 billion Recovery Fund to support the most struggling EU members like Italy. The potential of this fund should keep the EUR supported as long as the recovery fund is expected to be adopted by all the member states. Next week will be crucial for the fund’s future as European Leaders will be meeting to potentially authorise this large stimulus package.
Reasons for AUD weakness
Australia, in contrast, has retreaded back into lockdown measures as COVID-19 cases rise in Australia’s second most populous state of Victoria. Australia’s PM Morrison said news from Victoria state is very concerning and announced Australia will reduce the number of inbound arrivals as well as conducting a nationwide review of hotel quarantine.
Interest rate differentials favour EURAUD upside.
The Interest rate differentials are also shifting to help the Euro higher against the AUD. EUR yields are in negative territory, but the gap between AUD rates is narrowing as the RBA has cut its rates down to 0.25%. In March the spread at the 2 year was around 112 bps that has now reduced to 58bps which should support EURAUD upside from here.
Key risks to outlook
The key risks to this outlook is whether the European Recovery Fund is rejected by the frugal four. The countries of Austria, Sweden, Hungary and Denmark are opposed to some of the core parts of the proposed fund. This will weaken the EUR and invalidate this outlook if the frugal four (five if you include Finland) reject the proposal. Any fast falls in Australia COVID-19 cases would also invalidate this outlook. In terms of the technical picture the 200EMA on the weekly chart provides a place to limit risk. Buyers could be at market with stops running below the 200WEMA marked on the chart below targeting 1.7000 as the first target.