EUR/USD falls to near 1.1540 as US Dollar remains firm amid Middle East conflicts

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The EUR/USD pair is down 0.2% to near 1.1545 during the late Asian trading session on Monday. The major currency pair is under pressure as the US Dollar (USD) gains amid an increase in demand for safe-haven assets due to escalating conflicts in the Middle East.

EUR/USD drops to near 1.1540 as Middle East conflicts improve safe-haven demand.
The Fed is unlikely to cut interest rates this year.
A negative energy supply shock amid Iran conflicts has weighed on the Euro.

As of writing, the US Dollar Index (DXY), which tracks the Greenback’s value against six major currencies, trades 0.17% higher to near 99.67.

Middle East conflicts have escalated as Iran vows retaliation against United States (US) President Donald Trump’s 48-hour ultimatum, in which he warned the obliteration of Iran’s power plants if it doesn’t open the Strait of Hormuz within 48 hours.

In addition to an increase in the US Dollar’s safe-haven demand, speculation that the Federal Reserve (Fed) will not cut interest rates this year is also providing support to the US Dollar. The expectations of the Fed holding interest rates at their current levels for longer are backed by accelerating inflation expectations amid higher energy prices.

Meanwhile, the Euro (EUR) is facing the heat of rising energy prices. “The market's going with the idea that those countries and economies that enjoy a positive supply shock from energy are likely to perform better than those that are suffering from a negative supply shock, such as the Euro and the Japanese Yen (JPY), an analyst at National Australia Bank (NAB) said in a podcast, Reuters reports.

On the monetary policy front, the European Central Bank (ECB) left interest rates unchanged last week and warned that an “increase in energy prices will drive inflation above 2% in the near term".

Risk sentiment FAQs

What do the terms"risk-on" and "risk-off" mean when referring to sentiment in financial markets?

In the world of financial jargon the two widely used terms “risk-on” and “risk off'' refer to the level of risk that investors are willing to stomach during the period referenced. In a “risk-on” market, investors are optimistic about the future and more willing to buy risky assets. In a “risk-off” market investors start to ‘play it safe’ because they are worried about the future, and therefore buy less risky assets that are more certain of bringing a return, even if it is relatively modest.

What are the key assets to track to understand risk sentiment dynamics?

Typically, during periods of “risk-on”, stock markets will rise, most commodities – except Gold – will also gain in value, since they benefit from a positive growth outlook. The currencies of nations that are heavy commodity exporters strengthen because of increased demand, and Cryptocurrencies rise. In a “risk-off” market, Bonds go up – especially major government Bonds – Gold shines, and safe-haven currencies such as the Japanese Yen, Swiss Franc and US Dollar all benefit.

Which currencies strengthen when sentiment is "risk-on"?

The Australian Dollar (AUD), the Canadian Dollar (CAD), the New Zealand Dollar (NZD) and minor FX like the Ruble (RUB) and the South African Rand (ZAR), all tend to rise in markets that are “risk-on”. This is because the economies of these currencies are heavily reliant on commodity exports for growth, and commodities tend to rise in price during risk-on periods. This is because investors foresee greater demand for raw materials in the future due to heightened economic activity.

Which currencies strengthen when sentiment is "risk-off"?

The major currencies that tend to rise during periods of “risk-off” are the US Dollar (USD), the Japanese Yen (JPY) and the Swiss Franc (CHF). The US Dollar, because it is the world’s reserve currency, and because in times of crisis investors buy US government debt, which is seen as safe because the largest economy in the world is unlikely to default. The Yen, from increased demand for Japanese government bonds, because a high proportion are held by domestic investors who are unlikely to dump them – even in a crisis. The Swiss Franc, because strict Swiss banking laws offer investors enhanced capital protection.

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