EUR/USD parity: what would currency parity mean for traders?

As the euro nears parity with the dollar, it’s sparked conversations over what it could mean for the global economy and FX traders. Learn how the economic theory of parity influences FX trading strategies.

What is currency parity?

Currency parity is when the exchange rate of two currencies reaches equality, so that a sngle unit of one could be traded for a single unit of the other. For example, €1 could buy $1.

In the forex market, price parity is commonly used to assess whether currencies are over or under valued. It’s most known as the theory of purchasing power parity.

What is purchasing power parity (PPP) theory?

Purchasing power parity is an economic theory that compares the economic productivity and living standards of two countries using a basket of goods and services. The idea is to establish which currencies are over and undervalued, as eventually they will reach parity over time.

PPP theory is used by some currency traders to assess how FX markets will move. They’d sell currencies that are overvalued and buy currencies that are undervalued, in the expectation that the exchange rate will balance out over time.

In the case of EUR/USD, this has resulted in a lot of short positions being opened on the euro as the eurozone economy weakens.

Criticisms of purchasing power parity

Using purchasing power parity returns mixed results over the short-term, as it can take a long time for currencies to reach parity. Currencies can stay over or undervalued for years, so for day traders it should form just one part of their strategy.

Will the dollar and euro reach parity?

The dollar and euro are on the verge of currency parity for the first time since 2002. The euro has been depreciating against the US dollar for over a year, but it hit $1.03 in early July, sparking conversations about whether parity will be reached.

The euro’s decline has been spurred on by the divergence of monetary policy between the two economies, leading to a larger interest rate differential.

While the Fed’s previously low interest rates had helped keep the euro above the dollar, the Fed has now started raising interest rates to rein in inflation. But the European Central Bank has yet to hike rates despite record inflation hitting the eurozone – largely due to fears rate rises could cause another debt crisis.

This has lifted the dollar against the euro – as well as other global currencies.

What happens if EUR/USD parity is reached?

If EUR/USD parity is reached, it’s unlikely much will change in the short-term for the European Central Bank. Analysts still expect the ECB to leave rates unchanged, or lift interest rates less aggressively than the Fed. If the ECB does hike rates, it would mark its first increase since 2011.

But the Federal Reserve could take action and slow down its monetary tightening. Many have already remarked that the dollar index is too high – up 8% since the start of the year thanks to safe-haven inflows.

Start trading FX with City Index

You can speculate on EUR/USD and other global currency pairs with City Index in just four easy steps:

Open a City Index account, or log in if you’re already a customer
Search for the FX pair you want to trade in our award-winning platform
Choose your position and size, and your stop and limit levels
Place the trade

Or you can try FX trading risk free by signing up for our demo trading account.

This report is intended for general circulation only. It should not be construed as a recommendation, or an offer (or solicitation of an offer) to buy or sell any financial products. The information provided does not take into account your specific investment objectives, financial situation or particular needs. Before you act on any recommendation that may be contained in this report, independent advice ought to be sought from a financial adviser regarding the suitability of the investment product, taking into account your specific investment objectives, financial situation or particular needs.

StoneX Financial Pte. Ltd., may distribute reports produced by its respective foreign entities or affiliates within the StoneX group of companies or third parties pursuant to an arrangement under Regulation 32C of the Financial Advisers Regulations. Where the report is distributed to a person in Singapore who is not an accredited investor, expert investor or an institutional investor (as defined in the Securities Futures Act), StoneX Financial Pte. Ltd. accepts legal responsibility to such persons for the contents of the report only to the extent required by law. Singapore recipients should contact StoneX Financial Pte. Ltd. at 6826 9988 for matters arising from, or in connection with the report.

In the case of all other recipients of this report, to the extent permitted by applicable laws and regulations neither StoneX Financial Pte. Ltd. nor its associated companies will be responsible or liable for any loss or damage incurred arising out of, or in connection with, any use of the information contained in this report and all such liability is hereby expressly disclaimed. No representation or warranty is made, express or implied, that the content of this report is complete or accurate.

StoneX Financial Pte. Ltd. is not under any obligation to update this report.

Trading CFDs and FX on margin carries a high level of risk that may not be suitable for some investors. Consider your investment objectives, level of experience, financial resources, risk appetite and other relevant circumstances carefully. The possibility exists that you could lose some or all of your investments, including your initial deposits. If in doubt, please seek independent expert advice. Visit www.cityindex.com/en-sg/terms-and-policies for the complete Risk Disclosure Statement.

ALL TRADING INVOLVES RISKS. LOSSES CAN EXCEED DEPOSITS.

City Index is a trading name of StoneX Financial Pte. Ltd. (“SFP”) for the offering of dealing services in Contracts for Differences (“CFD”). SFP holds a Capital Markets Services Licence issued by the Monetary Authority of Singapore for Dealing in Exchange-Traded Derivatives Contracts, Over-the-Counter Derivatives Contracts, and Spot Foreign Exchange Contracts for the Purposes of Leveraged Foreign Exchange Trading. SFP is also both Derivatives Trading and Clearing member of the Singapore Exchange (“SGX”). SFP is a wholly-owned subsidiary of StoneX Group Inc.

The information provided herein is intended for general circulation. It does not take into account the specific investment objectives, financial situation or particular needs of any particular person. You should take into account your specific investment objectives, financial situation or particular needs before making a commitment to invest, including seeking advice from an independent financial adviser regarding the suitability of the investment, under a separate engagement, as you deem fit. No representation or warranty is given as to the accuracy or completeness of this information. Consequently, any person acting on it does so entirely at their own risk.

The information does not represent an offer of, or solicitation for, a transaction in any investment product. Any views and opinions expressed may be changed without an update. To understand the risks and costs involved, please visit the section captioned “Important Information” and the “Risk Disclosure Statement”.

The information herein is not directed to, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction where such distribution, publication, availability or use would be contrary to law or regulation.

StoneX Financial Pte. Ltd. 1 Raffles Place, #18-61, One Raffles Place Tower 2, Singapore 048616. Tel: 6309 1000. Co. Reg. No.: 201130598R.

This advertisement has not been reviewed by the Monetary Authority of Singapore.