Prospect of stronger euro may prove market mirage

LONDON: The euro may have been gently boosted by comments this week from European Central Bank President Mario Draghi but that does not necessarily mean the single currency has turned the corner.
Given Draghi believes ECB purchases of short-term sovereign bonds would not breach European Union rules, the market is gearing up for explicit declarations of intent at today's ECB policy meeting. The euro rose against the dollar.
The risk must surely be that any announcements fall short and end up disappointing a foreign exchange market that, based on the euro's drift higher in recent days, seemingly wants to believe that the euro's next sizable move is higher.
Part of that belief may stem from market necessity.
The harsh reality is that many foreign exchange traders need a big move in the hope of building a momentum of profitability that will put them back on target.
Jumping on the Draghi bandwagon could offer that hope but might also mean analysis of what Draghi can actually deliver is less objective than it might ordinarily be.
Sliding foreign exchange volumes and a relative lack of volatility in major currencies have been an obstacle to traders seeking to attain profit targets, and the year is slipping by.
December, with all its festivities and end-of-year book closings, is always something of a write-off for most traders, leaving just three months in which to make up lost ground.
Foreign exchange trading volumes have slumped.
The average daily value settled in the foreign exchange market Fell to $ 4.58 trillion in July, down 10.5 percent over June, while volumes also declined, data from FX settlement system CLS Bank showed.
That corresponds with falling spot volumes on the trading platforms owned by Thomson Reuters and on EBS, owned by interdealer broker ICAP Plc.
Anecdotal evidence and the fact that August is a major holiday month for very many traders in the northern hemisphere would suggest that last month will also have seen many failing to make up ground on their profit targets.
An objective view of what the ECB can achieve might lead to a more sober evaluation of the euro's prospects.
Draghi had already said any bond buying would be at the short end of the yield curve. On Monday, he said buying bonds out to three years posed little risk of monetary financing — anathema to the Bundesbank.
The market picked up on the reference to three years, but ignored the fact that if the ECB wanted to keep the pressure on the periphery to undertake painful restructuring, the central bank might be more focused at the very short end.
That would keep periphery policymakers focused as running a country on month-by-month ECB largesse would not be attractive.
Draghi alluded to the risk of reform grinding to a halt due to "adjustment fatigue, and added this was why the ECB was imposing conditions for its help.
That is not a blank cheque.
Traders may need to focus on what Draghi is actually trying to achieve rather than what they might want him to achieve in their hope of seeing a big move higher in the euro/dollar exchange rate to help bolster their own profitability.
Today's ECB announcements may indeed provide an oasis of support for the euro, but oases can often prove to be mirages.

— Neal Kimberley is an FX market analyst for Reuters. The opinions expressed are his own.