While it may be true that 'everything is still possible,' as Former European Parliament President Martin Schulz recently stated to media regarding the upcoming German elections on Sunday, a commanding win by anyone other than current Chancellor Angela Merkel's Christian Democratic Union (CDU) party is highly improbable, if polls are any indication. Merkel's party has continued to lead in polling by double-digits over its closest rival, Shulz's Social Democratic Party (SPD). While there still may be a possibility that the polls may have gotten it all wrong (e.g., Brexit referendum and Trump election), such a substantial polling lead by Merkel's party would unlikely be so off the mark.
The real risk for the euro does not necessarily lie in the unlikely event of Shulz becoming the new Chancellor, but in the ascendance of the anti-immigration and anti-EU party, Alternative for Germany (AfD), which has recently taken third place in polling at around 12% to the CDU's 37% and the SPD's 20%. Though it is highly unlikely that the AfD will command enough votes to even be considered for any part in a new coalition government, the threat of the AfD performing well in the elections and potentially being represented in the Bundestag will be of primary concern with respect to the euro. Much like in the French elections earlier this year, the fear of any power in the hands of anti-EU nationalists represents a significant threat to the viability of the shared currency, particularly since Germany is a dominant member of the Eurozone and European Union.
The likeliest scenario this Sunday will be a clear win by the CDU, with Merkel continuing on as Chancellor and forming a probable coalition government that excludes the AfD. Again, however, the risk of the AfD gaining more prominence and power is significant, and could negatively impact the high-flying euro if the party wins substantially more votes on Sunday than expected. Barring such an outcome, however, the probable event of a CDU/Merkel win with a new coalition government would likely see the euro continue to rally as the AfD threat potentially dissipates.
The bullish EUR/USD trend since the beginning of the year has been perpetuated by a long-struggling US dollar along with a rising euro that has been propelled in part by hints of potentially tighter monetary policy from the European Central Bank. The currency pair hit a new multi-year high just shy of 1.2100 only two weeks ago. Wednesday's US dollar surge on the back of a hawkish Federal Reserve meeting prompted a EUR/USD drop to a key uptrend line extending back to April, as well as the 50-day moving average. Thursday saw a bounce from both the trend line and the moving average after the dollar pared some of its gains. If the German elections turn out as widely expected, EUR/USD could see a boost as election risk is taken off the table. In this event, a rally back up to 1.2100 could occur, with any further rise above 1.2100 confirming a continuation of this year's sharp bullish trend.