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  • Transatlantic divergence may sound like a steamship from the roaring 1920s, but it has been the trade of the year as the Euros tumbled against the Dollar.

  • Many and I poised to be the trade of next year as well. Thanks to the Central Bank of Europe and the US. But that should be cautious.

  • On Thursday, the dovish European Central Bank is indeed poised to move rates even more deeply negative

  • to extend quantitative easing beyond next September to buy more bonds, or possibly, to do all three.

  • In the full-night time, the US Federal Reserves widely expected to take the exact opposite approach, raising interest rates for the first time in almost the decade.

  • It's living divergence. In conclusion, obvious, buy the Dollar, sell the Euro. The US is tightening and the Euro zone easing. What else could you do?

  • Well, this chart shows the value of the Euro, that's the blue line that against the Dollar.

  • And against that in red is the additional yield that you earned from holding German rather than US short-dated bonds.

  • Even as German yields followed European monetary policy into more negative territory, US's yields have been rising than anticipation of Fed action.

  • That's driven down the spread day into a deeply negative territory, that's have on the left says that

  • German bond yields deny almost 2 percentage points lower than in the US at the 2-year level.

  • Well, so far so obvious, but everyone knows this: the short viewpoint to that yesterday. That's on the Dollar rising could still get a bit more crowded.

  • So perhaps, there is a bit more to go. After all Euros just coming close to the levels that it hit back in March.

  • The problem is with the fundamentals. Monetary policy in the Euro zone seems to be working.

  • There are still threats of course with Ukraine and the Middle East on Europe's doorstep,

  • and domestic political danger's never far away and troubled Euro zone.

  • But look at the economic data, and the region doesn't look like it's improving fast.

  • Today brought European manufacturing figures showing the fastest growth since last summer.

  • Banks again lending to companies and individuals. And employments dropped to the lowest since early 2012.

  • Monetary base is growing just as far as it did from the Euro's lounge back in 1999, up to the start of the crisis year of 2017.

  • If you look at core inflation stripping at the volatile energy and food prices, it's back about 1%, still below the 2% plus the 2% target,

  • but while away from the deflation re-threat. At the same time, GDP that's rising faster than the sclerotic Euro zone can expect in the long return.

  • And all of that suggest, after this week's easing by the ECB, the talk in the Euro zone might soon turn hawkish.

  • At the same time, the US recovery is starting to look a bit more challenged. Today's manufacturing data in the US, that's the blue line there,

  • is showing the sector contracting at the fastest pace since 2009, should say below 50 shows the manufacturing's contracting, and above 50 shows gross.

  • This is red line is the Euro zone.

  • Does it start look as though the strength of the Dollars starting to hurt the internationally exposed American manufacturers?

  • At the same time is the weak Euro is starting to help the European manufacturers.

  • The domestically-driven US services sector still looks ok, but higher US inflation

  • compared to Europe can all be explained at the core level by the faster rising US's ramps, just hardly the basic building block for robustic economy,

  • And none of this means the Dollar is about to crash. But after rising a third since last summer, sorry it's the summer last year, against the Euro,

  • investors would need to think that the European recovery is weaker than the data suggests,

  • while the US is stronger in order to bet on the Dollar having another big gain in 2016.

Transatlantic divergence may sound like a steamship from the roaring 1920s, but it has been the trade of the year as the Euros tumbled against the Dollar.

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Transatlantic policy divergence diverges | Short View

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    Kristi Yang posted on 2015/12/03
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