By Agnes Lovasz and Bo Nielsen
April 9 (Bloomberg) -- The euro's rise has taken analysts by surprise and traders expect more gains as the region's economy grows and interest rates climb.
Investors in futures have $15.9 billion more in bets on the euro strengthening than on a decline, data from the Washington- based Commodity Futures Trading Commission show. Options traders are paying more for the right to buy euros than to sell the currency.
Traders sending the euro toward record highs are clashing with economists, who predicted in December that the currency would trade at $1.328 by the end of the first quarter and fall 1 percent to $1.305 this year, according to a Bloomberg News survey. They stuck to their calls in March, saying the euro would weaken to $1.31 by 2008.
``The euro's the safest bet,'' said Peter Lucas, who's been buying euro forwards as chief investment officer at Ashburton Ltd., which manages $1.7 billion in Jersey, in the Channel Islands. ``We let the market do the talking.''
Europe's single currency traded at $1.3379 at 7:58 a.m. in New York and at 159.59 yen. It rose to a two-year high of $1.3442 and a record 159.69 yen last week.
The euro is up 1.9 percent against the dollar and 3.7 percent versus the yen since European Central Bank President Jean-Claude Trichet followed a March 8 interest-rate increase by saying borrowing costs were still low enough to fuel expansion. The 13-nation European currency rose 0.2 percent to the dollar last week, following a 2.0 percent gain the past month. It reached a record $1.3666 on Dec. 30, 2004.
Group of Seven
The currency's strength likely will be addressed at the Group of Seven industrialized nations meeting starting April 13 in Washington, D.C., said Jim O'Neill, head of global economic research in London at Goldman Sachs Group Inc.
European finance ministers said on March 27 that the economy of the nations sharing the currency can avoid being dragged down by a slowing U.S. expansion. They expressed concern that a rising euro may threaten to slow growth in the region before other G-7 meetings.
The euro has also risen 1.6 percent this year against the Swiss franc and 1.1 percent against the British pound as traders boosted bets that faster growth would prompt the ECB to raise rates. Interest-rate futures show traders increased bets the ECB will increase borrowing costs this year to at least 4 percent from 3.75 percent currently. The yield on the December contract gained to 4.25 percent from 4.20 percent a week earlier.
The contract settles to the three-month interbank offered rate for the euro, which has averaged about 16 basis points above the ECB's benchmark since 1999.
Faster Growth
``The risk is there'll be more than one hike,'' said Niels From, a currency strategist at Dresdner Kleinwort in Frankfurt, who predicted the euro will rally in the Bloomberg survey. ``Analysts will raise their forecasts for the euro. We're confident it will break previous record levels.''
Consumers are more optimistic and inflation is accelerating in Germany, Europe's largest economy, data last week showed. The ECB on March 8 raised its forecast for euro-region growth in 2007 to about 2.5 percent, from 2.2 percent previously.
Signs of faster growth prompted Commerzbank AG economist Carsten Fritsch to revise his forecast. ``The ECB is hawkish and that led us to change our call'' and predict the euro will strengthen to $1.36 by year-end, compared with $1.27, he said. ``Economic data and business sentiment has been better than expected.''
Shifting Forecasts
Commerzbank increased its forecast for European benchmark rates to 4.25 percent this year, from 4 percent. The Frankfurt- based bank also cut its prediction for U.S. borrowing costs to 4.5 percent, from the Federal Reserve's 5.25 percent target for overnight loans between banks.
Trichet last week said inflation has ``upside risks,'' adding to speculation the ECB will raise rates beyond 4 percent.
``The euro will probably go higher,'' said Adnan Akant, head of foreign exchange at Fischer Francis Trees & Watts in New York, which oversees $39 billion in assets. ``It's a slow motion sort of thing and driven by the gradual narrowing of interest- rate differentials.''
Interest-rate futures in the U.S. show a 58 percent chance the Fed will reduce rates to 4.75 percent by the end of the year.
The euro's rally will peak as seven rate increases since December 2005 and a stronger exchange rate slow the economy at the same time that U.S. growth picks up, some analysts said. Yields on 10-year Treasuries are about 0.64 percentage point higher than those on similar-maturity German notes, down from 1.1913 percentage points in May 2006.
Euro Peaking?
Europe's economy ``will start to lose momentum, while in the U.S. a lot of the bad news will be out of the way,'' Mitul Kotecha, head of currency strategy at Calyon, said in London. ``That will benefit the dollar.'' Calyon expects the euro will reach $1.30 by year-end.
The European currency fell as much as 0.5 percent versus the dollar on April 6 after a government report showed the U.S. added more jobs than expected in March, reducing speculation the Fed will lower borrowing costs in the third quarter.
The euro's ascent from 87 cents five years ago hurts European exporters. Pernod Ricard SA, the world's second-largest liquor maker, said last month the currency knocked almost 5 percent off operating profit in the second half of 2006.
Futures Bets
The amount of futures contracts betting on a stronger euro is close to the record 102,598 reached in February, according to the Commodity Futures Trading Commission. The wagers increased to 95,078 as of April 3, from 77,456 in the first week of the year. The contracts are used by hedge funds and speculators.
Demand for one-month call options granting the right to buy euros increased in the past month. The so-called risk-reversal rate has risen to 0.425 percent, from 0.05 percent on March 5. A positive figure indicates traders are favoring calls over puts, which give the right to sell the euro.
``The euro will go higher because of the strong economy and potential for higher rates,'' said Toshi Honda at Mizuho Corporate Bank Ltd. in London, among the most bullish analysts surveyed. ``It has a chance of reaching $1.40 by the year-end.''
To contact the reporters on this story: Agnes Lovasz in London at alovasz@bloomberg.net ; Bo Nielsen in New York at bnielsen4@bloomberg.net
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