The Relationship Between EUR/USD and Equities

It is a quiet morning in the foreign exchange markets with the dollar holding onto its gains. As our colleague Boris Schlossberg mentioned this morning, the G7 meeting proved to be a dud for the foreign exchange markets as the leaders of the richest nations avoided official comments on currencies. Although the finance ministers and central bankers attempted to reassure the markets that everything will be alright with Greece, investors want action and not words. Therefore the euro is still struggling with debt worries that dominated this weekend's headlines in both financial and non-financial media. The front of the week should be very quiet for the dollar with retail sales not due for release until Thursday.

All eyes are on equities today with the market itching to see if Friday's aggressive rebound in U.S. equities will last. Based upon the initial sell-off in stocks at the open, investors are not necessarily convinced that smaller job losses will be enough to keep the recovery going. After such a deep sell-off last week and the lack of market moving data in the beginning of this week, we expect volatility in currencies and equities to compress which could help carry trades recover.

In the meantime, currency traders should continue to keep their eyes on equities. Over the past year, there has been an 88 percent positive correlation between EUR/USD and S&P 500. This correlation has increased to 92 percent since the beginning of the year which suggests that if there is no catalyst to move currencies, forex traders will most likely to take their cues from equities. The following chart illustrates the strong correlation between the EUR/USD and S&P 500 over the past few years - there is no reason why the relationship will change this week.

Source: Bloomberg

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