In terms of EUR/USD we have seen a rally up to the 1.080 level but now expect the rally to fail out view of the fundamentals, sentiment, and technicals below.
The Interest Rate Outlook
The Euro has rallied on the view the ECB will raise rates and the market is discounting a move to 1.00% to help cool inflation which is at a 40-year high.
Euro inflation came in above forecast this month:
“Annual inflation rate in the Euro Area increased to 8.1% in May of 2022, a fresh record high, from 7.4% in each of the previous two months and well above market forecasts of 7.7%. Price pressures in Europe remain elevated and have not peaked, strengthening the case for the ECB to start raising borrowing costs.” (TRADINGECONOMICS)
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It does but the market is looking at tightening rates to 1% by the end of the year which looks optimistic. The ECB has noted via President Christine Lagarde that she expects interest rates to be out of negative rates by the end of Q3 but the market sees + 1% and this will be hard to achieve:
“The ECB is in a particularly difficult situation, with officials mulling the immediate end of QE and the possibility of several rate hikes from the summer. It is not clear the euro area could cope with significant monetary tightening, as we have noted before rate hike expectations are overdone in the zone…” (TS Lombard)
The reason it will be hard to achieve is the poorer nations of the zone such as Italy, Spain, and Portugal will oppose higher rates. Also, the zone has seen its economy slow up as the impact of the Ukraine Russia war is severe, spiking energy prices and also the cost of other commodities.
If we look at the economy leading indicators point to a slow up in the economy as we can see on the PMI data below.
The zone is in big trouble economically and rate rises could not only slow grwoth further they could cause a recession.
We can see there has been speculative buying of the euro on the chart below and large speculative funds hold a similar size long position to the one they held when the euro rallied to 1.100 at the time, we saw a break lower of 500 pips and we could see a similar downside move again as these speculators are taken out on stop.
We think the good news is in for the euro longer term the interest rate outlook favors the US and we view the euro rally as a sell.
On the chart below we have resistance at 1.0800 then 1.0900 and expect 1.080 to hold on a close basis. In terms of support, we have support at chart lows.
The big trend is down and we think that we will sell off to chart lows then if they break, the next support is on the monthly chart at 1.000 which are 2017 lows.