The start of the year has heralded a substantial shift in foreign exchange markets, with riskier currencies no longer trading as one. As a result, the euro is looking increasingly isolated.

The single currency has fallen to 16-month lows against the dollar and is lagging behind other currencies. Indeed, some analysts believe it is becoming an attractive alternative to the dollar as a funding currency, with investors borrowing euros to fund investment in higher-yielding assets in a so-called “carry trade”.

For much of last year, currency markets were in the grip of the so-called “risk-on, risk-off” trade. When investors were feeling confident and risk was “on”, they sold the dollar and bought virtually any other currency including the euro, the Australian dollar and the South African rand.

When fears over a euro collapse intensified, the US dollar was the main beneficiary. Counter-intuitively, the dollar fell on positive economic data from the US, a trend that has been apparent since the collapse of Lehman Brothers heightened the role of fear as a driver of markets.

There are signs that this pattern is coming to an end.

The Australian dollar, typically an indicator of global growth, has risen 2 per cent against the US dollar in the past three weeks. By contrast, the euro has fallen nearly 5 per cent against the Australian dollar to historic lows. That trend is reflected in other currencies linked to global growth and commodity demand, including the New Zealand and Canadian dollars.

Analysts argue that currencies could be moving into a new trading pattern, with the euro set to underperform when risk is on.

One reason for this is the improving mood on the US economy. Last week, two sets of better than expected jobs data in the US sent the dollar higher. As recently as three weeks ago, figures that indicated an improvement in the US labour market – with fewer people applying for unemployment benefits – caused the euro to rise against the dollar.

But expectations for monetary easing in Europe and the US have now diverged. Many analysts expect the European Central Bank will cut rates further this year. The ECB’s so-called long-term refinancing operation – in which it lent a record €489bn to European banks last month – has been interpreted as a form of “quantitative easing”, injecting extra liquidity into the system and helping to weaken the euro.

Investors are speculating that a third round of QE in the US is less likely as the outlook for its economy improves. There are signs in recent quarterly Federal Reserve data that US investors are repatriating assets from overseas. If investors choose to invest at home this year, that would help strengthen the dollar.

“A swing back in favour of US markets will remove the downward pressure the greenback has felt from a decade of dollar diversification,” says Mansoor Mohi-uddin, currency analyst at UBS. “Instead, America’s currency may experience a regime shift back to the 1990s when bullish investors sought US rather than foreign assets when markets rallied.”

Central banks may also be more wary of diversifying into euros. Emerging market central banks have been moving out of dollars in recent years and into other currencies, with the euro one of the main beneficiaries. Figures indicate that this diversification slowed down in the third quarter of last year as central bankers fretted over the troubled eurozone. Dollar holdings rose slightly to more than 61 per cent for those central banks that report their holdings – China does not – while euro holdings fell, according to data released at the end of December by the International Monetary Fund.

Another important factor pushing the euro lower is, ironically, the lessening fear that the single currency will break apart. Analysts have long argued that the euro is overvalued, with purchasing power parity figures suggesting it should be closer to $1.20. The euro has until recently remained high: few investors wanted to take a position on either recovery or meltdown.

Analysts believe the ECB and Europe’s politicians will be happy to see the euro fall. Such a move would be likely to boost exports and growth in the euro area.

As such, it could become more attractive to investors as a funding currency for the carry trade. In fact, the recent falls in the euro against commodity currencies such as the Australian dollar could be evidence that investors are already using it to fund investment in risky assets elsewhere.

Stacy Williams, head of foreign currency quantitative strategy at HSBC, offers an alternative explanation: the euro could simply be finding a weaker level. Once it has lost some of its value, it could continue to move in line with other “risk on” currencies.

The shift in correlations between the euro and other currencies has only just begun, so it is too early to draw hard conclusions. But Mr Williams says: “If this is the start of a change in the way the euro and the dollar trade, this is what it would look like.”