The Euro’s Asymmetric Upside
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A Report by CYS Global Remit Counterparty Sales & Alliance Unit
EUR/SGD | 1.5100– 1.5200 |
The Euro has emerged as one of the standout performers in the currency complex this year, with EUR/USD on track for annual gains exceeding 12%. While the rally has lost some momentum in recent months, Bank of America Securities remains constructive on the single currency into 2026, arguing that the balance of risks is increasingly skewed toward further appreciation rather than reversal.
At the core of this view is a shift in relative expectations. Following an initial burst of optimism earlier in the year, market sentiment toward Europe has cooled markedly. Investors have grown cautious about the execution risks surrounding German fiscal expansion and broader European defence spending, while remaining sceptical that meaningful structural reforms will materialise in the near term. This moderation, however, is precisely what lowers the bar for positive surprises. Bank of America argues that Europe no longer needs to significantly outperform to support the Euro. It simply needs to under-deliver less than other major developed economies. Against a backdrop of persistent fiscal, political, and inflation concerns in the United States, Japan, and the United Kingdom, the Euro area’s evolving macro profile looks comparatively resilient.
A Lower Bar for Europe and a Narrowing Growth Gap
The bank’s bullish EUR/USD forecast, which targets 1.22 by the end of 2026, is grounded in the expectation of growth convergence between the United States and the Euro area in the second half of 2026. After several years of U.S. economic outperformance, driven by aggressive fiscal support, resilient consumption, and investment linked to industrial policy, Bank of America’s economists expect U.S. growth to slow toward trend as these tailwinds fade.
In contrast, the Euro area’s growth impulse is expected to arrive later but prove more durable. Germany’s fiscal package represents a meaningful departure from the region’s traditionally conservative stance and, even if rolled out gradually, signals a structural shift in policy priorities. Increased spending on infrastructure, defence, and energy security should lift medium-term growth potential, particularly when combined with a recovery in external demand.
External conditions also play a central role in this outlook. Europe’s economy remains more sensitive to global trade cycles than that of the United States, and Bank of America expects easing measures in China in late first quarter or early second quarter to support global manufacturing and exports. As global demand stabilises, Europe stands to benefit disproportionately, reinforcing the case for growth convergence rather than outright U.S. dominance.
Importantly, the Euro’s upside does not depend on an immediate acceleration in European data. With expectations already subdued, incremental improvements in activity or fiscal delivery could have an outsized impact on currency markets. This asymmetric setup underpins Bank of America’s view that EUR/USD appreciation is more likely to take the form of a steady grind higher rather than a sharp breakout.
Real Rates, Not Nominal Cuts, Drive the FX Outlook
Monetary policy divergence is often cited as a potential headwind for the Euro, particularly as the European Central Bank is expected to deliver at least one more rate cut, likely in March, with no hikes projected through 2027. In isolation, this stance would typically argue against currency strength. However, Bank of America emphasises that real rates, rather than nominal policy paths, will be the dominant driver of exchange-rate dynamics.
The bank expects inflation to undershoot in the Euro area while overshooting in the United States and several other developed economies. This divergence has important implications. In the U.S., stickier inflation may constrain the Federal Reserve’s ability to ease policy aggressively, even as growth slows. Over time, this creates the risk of tighter real financial conditions and a sharper adjustment once easing eventually begins. By contrast, the Euro area’s lower inflation trajectory allows the ECB greater flexibility to ease without destabilising real rates. While near-term rate cuts may weigh marginally on the Euro, they are largely priced in and offset by improving medium-term real-rate expectations. From an FX perspective, this reduces volatility and supports capital allocation into European assets.
This framework also helps explain why Bank of America expects Euro strength not only against the U.S. dollar but also versus the Japanese yen and British pound. Japan continues to face uncertainty around policy normalisation and wage-driven inflation, while the U.K. grapples with weak productivity growth and constrained fiscal space. Relative to both, the Euro area’s outlook appears more balanced.
Risks, Timing, and the Path Forward
Bank of America is clear that the timing of Euro appreciation matters. The bank expects most U.S. dollar weakness to materialise after the first quarter, implying that near-term consolidation in EUR/USD is more likely than an immediate extension of this year’s rally. As markets shift focus from short-term policy differentials to medium-term growth and inflation dynamics, the Euro’s structural support should become more evident.
Key risks remain. Delays or dilution in German fiscal implementation, renewed energy price shocks, or a sharper-than-expected slowdown in China could undermine the growth convergence thesis. On the U.S. side, a faster-than-expected decline in inflation that enables earlier Federal Reserve easing would challenge the relative real-rate argument. Even so, the balance of probabilities favours the Euro. With sentiment already cautious and expectations restrained, Europe does not need to deliver exceptional outcomes to justify further appreciation. It merely needs to perform consistently against a backdrop of mounting constraints elsewhere.
In that context, Bank of America’s call on EUR/USD is less a bold directional bet and more a reflection of shifting relative fundamentals. As growth paths converge, fiscal dynamics diverge, and real-rate differentials evolve, the Euro’s asymmetric upside into 2026 becomes increasingly difficult for markets to ignore.
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