Signs of a coup at the European Central Bank led to a sharp rally in the euro on Tuesday.
Initially the move sounds counter-intuitive but on other levels it makes perfect sense.
The euro is three-quarters of a cent higher today at 1.2256 but rose as high as 1.2577 after a report that many members of the ECB governing council are unhappy with Draghi and that his leadership could be challenged tomorrow.
When you see the reasons for the unhappiness it begins to make more sense.
The two events cited were:
- Dovish comments about falling inflation expectations at Jackson Hole
- Draghi saying the balance sheet will rise by 1 trillion euros
Those were both dovish moves that Draghi took seemingly unilaterally. At the same time, it could be more of a comment on his leadership style so there’s some reason not to be so hasty in selling the euro.
Mario Draghi
But there are two other comments that are good news for the euro.
- The main rift is with the ultra-hawkish Bundesbank; if someone more favorable to the Germans replaces Draghi it could kill QE hopes.
- The story revealed that QE hopes might be far-fetched anyway because it says 10 of 24 ECB members are already against QE and it would be tough to push it through with such a small majority.
Ultimately, I think the trade is to sell a euro rally. If Draghi is turfed it will leave the ECB incapable of coherent monetary policy for a period and opens up the eurozone to another recession.
I think the most straightforward trade would be in stocks rather than in the euro. Periphery bonds could also fall.
In any case, it will make for an interesting ECB press conference on Thursday.
