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The EUR/USD will remain in sharp focus with the release of US CPI which hit a new 40-year high of 8.6%, and the Federal Reserve’s policy decision next week.
Is the EUR/USD heading back to sub-1.05?
Given that the ECB has pre-committed to a 0.25% rate hike in July, this has disappointed investors who were hoping for a more aggressive 50 basis point hike. The focus will now turn to the Fed meeting on Wednesday.
CPI had fallen to 8.3% year-over-year in April from 8.5% in March. IOn the core front, CPI eased to 6.2% in April from 6.5% in March and to 6.0% in in May.
The higher than expected CPI figure re-enforces expectations that the Fed will pursue a more aggressive tightening cycle, as it has indicated. This should keep the dollar supported, which should undermine the EUR/USD.
Regardless of the CPI, the FOMC is widely expected to hike rates by another 50 basis points at its meeting on Wednesday. Policymakers will also update their economic and interest rate projections (dot plots), providing us with some significant insights about the future path of monetary policy. I very much doubt the dollar will sell off ahead of the Fed meeting.
Following last Thursday’s ECB meeting, the EUR/USD formed a large bearish engulfing candle on its daily chart, around the downward-sloping 50-day moving average. Several short-term support levels were broken in the process, including 1.0670ish and 1.0640ish:
This 1.0640-70 range is now the key resistance zone to watch in as far as the short-term price action is concerned. For as long as the EUR/USD holds below here, the path of least resistance would remain to the downside.
The first line of support has been tested around 1.0600, providing a modest bounce so far. However, with the dollar rising across the board amid a risk-off tone in the market, Europe’s stagflation risks, and given the fact that the ECB has dismissed talks of a 50 basis-point rate hike for July, it feels like it will be only a matter of time before support at 1.0600 breaks—especially as the bears now have that engulfing candle as confirmation.
From here, it looks like the EUR/USD is likely to drop towards 1.0500 next, which comes in between the 61.8 and 78.6 percent Fibonacci levels. That is my first target but, I wouldn’t rule out a revisit of the 1.0350 level that was hit in May in the coming days.
The line in the sand for this bearish outlook is at 1.0775—the high from Thursday. Given everything outlined, there is no reason for the EUR/USD to revisit that level if it still wants to head lower. But if for some reason it does rise there, then there must be some underlying fundamental reason that I am not seeing right now. As such, I would drop my bearish view on this pair then. However, my base case is that rates will likely head lower, as per above.
