The European market displayed a languid performance last week, primarily influenced by the New Year holidayThe STOXX 600 index experienced a slight weekly increase of 0.2%, while the eurozone's STOXX 50 index fell by 0.56%. The automotive manufacturing, mining, and luxury goods sectors, which heavily depend on external markets, all faced declines, hindering overall market performanceAmong the three major indices in Europe, the UK's FTSE 100 index saw an increase of 0.91%, in contrast to Germany's DAX 30 index, which decreased by 0.39%, and France's CAC 40 index, which dropped by 0.99%.

Despite the European Central Bank (ECB) entering a rate-cutting cycle, confidence in European equities remains insufficient, echoing a wave of skepticism which has also impacted the euroLast week, the euro fell to below 1.0230 against the dollar, marking its lowest point since November 2022. The divergence in economic performance between the US and Europe, alongside differing expectations regarding interest rate cuts, indicates that we may be approaching a “parity era” where the euro might equal the dollar in value within the first half of this year.

Questions have arisen again regarding the pace of the ECB's interest rate reductions

The upcoming meeting on January 30, termed the ECB's "first meeting of the New Year", will be critical, especially with the release of the Consumer Price Index (CPI) data for Germany, the eurozone, and France in the coming days.

Last week, the US dollar experienced what could be described as an 'epic surge', placing further strain on European currenciesThe British pound briefly sank to an eight-month low against the dollar, while the euro hit a two-year low during the week, declining approximately 1.3%. The euro has been weakening significantly against the dollar since September 2024, with a staggering decrease of over 9% in the past three months.

The sharp decline in the euro and pound can be attributed to disappointing manufacturing Purchasing Managers’ Index (PMI) data from the eurozone and the UK in December, coupled with resilient economic data emerging from the US

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Notably, the US manufacturing PMI and first-time unemployment claims painted a positive pictureAdditionally, concerns over the expiration of the gas transit agreement from Ukraine have raised European natural gas prices, further contributing to the depreciation of European currencies compared to the dollarThe low market liquidity surrounding the dual holidays further exacerbates market volatility.

Growing bearish sentiment towards the euro suggests that reaching parity with the dollar is becoming increasingly likelyData from the US Commodity Futures Trading Commission indicated that hedge funds had maintained bearish positions on the euro since September 2025, while asset management firms reduced their bullish bets on the currency.

The last time the euro reached parity with the dollar was in 2022 due to skyrocketing energy prices across Europe, sparking fears of an economic recession

Currently, many analysts predict that the euro might breach this psychological barrier again within the first half of this yearNotable institutions like Rabobank, Wells Fargo, and the Dubai-based Emirates NBD have all expressed expectations that the euro-dollar exchange rate could test parity in the second quarter.

Further insights from analysts indicate a strong likelihood that the euro will indeed depreciate back to parity with the dollar, particularly in the first half of the yearAttention will be on the pace and impact of US policy measures alongside unresolved fiscal matters in France.

In the short term, it's plausible that the euro may experience further declinesDerek Halpenny, the Head of Global Markets Research for Europe, the Middle East, and Africa at MUFG, highlighted that tariff differences and expectations between the US and eurozone may incite euro selling in the coming weeks.

Yet, there remains a cautionary note regarding the US dollar, with potential correction risks looming

Observers should be mindful of the marginal weakening of US economic data and any potential slowdown in the momentum of US policy actionsAdditionally, the first quarter traditionally sees an influx of institutional buying of US Treasuries, which could lead to declining yields and subsequently result in a weaker dollar.

The economic landscape for the eurozone is facing heightened challengesData released last week showed that the manufacturing PMI in December remained below the critical 50 mark, indicating contraction, with a rapid decline compared to initial estimatesMoreover, the German manufacturing PMI did not deviate from initial reports, although the Federal Employment Agency reported an increase in registered unemployed persons in Germany to 287,000 in December 2024, reflecting a rise of 33,000 from November and a 0.1% increase in the unemployment rate.

Analysts widely view 2025 as a challenging year for Europe

Neil Shearing, Chief Economist at Capital Economics, remarked that the current situation differs from past eurozone crisesThe focus is no longer on smaller economies like Greece but on two of Europe’s largest economies facing significant troublesWithout substantive reform, prolonged recession looms for the eurozone.

Additionally, a recent survey by Bank of America signals that global fund managers are underweight in European equities and do not anticipate superior performance from them in 2025 compared to other markets.

However, a slow economy may solidify expectations for the ECB’s gradual rate cuts, which stand as one of the few silver linings for EuropeKristalina Georgieva, ECB Board Member and Governor of the Bank of Greece, stated last Thursday that he anticipates ECB's main rate to fall to 2% by autumn, indicative of a potential decrease of 100 basis points throughout the year, aligning closely with trader expectations.

Typically, reducing interest rates stimulates consumer spending, as disposable income and willingness to consume generally increase as a result of lower borrowing costs

Nonetheless, in an environment clouded by insecurity and looming tariffs, the cyclical sectors of automotive, real estate, and luxury goods may experience only a limited benefit.

Analyst Joachim Klement from investment bank Panmure Gordon noted that the travel and consumer service sectors may shine among European stocks, as the economy continues to grapple with sluggish manufacturing activities and weak export demandsAs we look toward 2025, the focus will shift towards service-oriented companies over industrial or consumer goods.

Key attention this week will be on the preliminary Eurozone CPI for December, serving as a crucial reference point for the ECB's rate decision on January 30. According to consensus estimates from FactSet, the overall inflation rate for December is expected to rise by 2.4% year-over-year, slightly above November's result of 2.2%. Core inflation, excluding volatile energy and food prices, is projected to remain stable from the previous month at a year-over-year growth of 2.7%.

Currently, markets broadly expect the ECB to continue with rate cuts at the end of January; however, there is still debate regarding whether the target rate will fall below 2% by 2025.