Euro / Dollar Stalled at Thicket of Resistance as Fed Risk Constrains

• EUR/USD recovery rally stalled near 1.12
• EUR/USD could hold onto 1.10 short-term 
• As inflation risk grows, EZ CPI data eyed
• But U.S. inflation & Fed anchor EUR/USD 
• Some forecasters eyeing 1.14 b year-end

Above: Lady Justice statue, Frankfurt © Adobe Images

The Euro to Dollar exchange rate came close to reversing all of the losses sustained since Russia’s invasion of Ukraine this week before stalling near a thicket of technical resistances that now litters the ground overhead on the charts and which could potentially bar the Euro’s path higher in the short-term. 

Europe’s single currency notched up a hat-trick of gains over the Dollar in price action that had many and often-conflicting drivers, although by Thursday the rally had stalled ahead of the 1.12 handle, which could mark a tentative top for the Euro in the short-term.

“The fact that Russia delayed the decision may be a 'blink' on its part and indicate that Russia is not in a position to utilize the flow of gas as leverage,” says Stephen Gallo, European head of FX strategy at BMO Capital Markets.

“Remarks from Germany indicated that Russia had backed away from its stance. However, a Kremlin spokesman later said that the EU would need to obtain RUBs in order to make payments,” Gallo also said in a Thursday market commentary. 

With the Kremlin neglecting to immediately push ahead with an effort to force European gas buyers to pay for their imports using the Rouble, further destabilising increases in energy prices may have been avoided this week in what was possibly a supportive development for the Euro.

Above: Euro to Dollar rate shown at daily intervals with Fibonacci retracements of February 24 fall and November 2021 decline indicating various levels of possible technical resistance to a further recovery by the single currency. Click image for closer inspection.

Meanwhile, sharp increases in French, German and Spanish inflation figures for March gave a strong indication on Wednesday and Thursday that risks around this Friday’s estimate of overall Eurozone inflation are likely also on the upside. 

“EUR/USD will remain vulnerable, but support has lifted to the 1.1000-50 area,” says Tim Riddell, a London-based macro strategist at Westpac. 

“Should EUR/USD manage to close above the 1.1175-90 area, prospects for a higher trading range would increase and raise potential for retracements towards 1.1475-1.1500,” Riddell and colleagues said on Thursday.

Rising inflation rates has led the European Central Bank to prepare markets for any and all forms of policy action in the quarters ahead including a possible ECB decision to draw a line under the multi-year era of negative interest rates in the near future. 

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“We think optimists should be aware that there are still reasons for EUR strength to be contained. The European consumer still faces a crisis of confidence and energy prices are far above normal levels,” says Jordan Rochester, a strategist at Nomura. 

“Macro-wise there is more to be priced into the Fed over the ECB, the euro area’s trade deficit is likely to widen and FX positioning is not that short EUR. This is why we expect EUR to remain under pressure in April,” Rochester also said in a note on Wednesday. 

Rochester and colleague George Buckley warned on Wednesday that there remains a risk of the Euro-Dollar rate slipping back toward the recent multi-year low near 1.08 over the coming months, although they also reiterated a forecast for the single currency to recover to 1.14 by year-end.

A significant part of this outlook is derived from the expectation that further anticipated increases in U.S. inflation rates could see the Federal Reserve (Fed) moving faster to raise its interest rate this year than even exceptionally ‘hawkish’ financial markets have been willing to assume.

Above: Euro to Dollar rate at weekly intervals with Fibonacci retracements of 2017 rally indicating various possible levels of long-term technical support. Click image for closer inspection.

It’s not just the Nomura team that sees an eventual recovery toward 1.14 being in the pipeline for the Euro-Dollar rate, however, as forecasters at BNP Paribas downgraded their year-end projection to exactly that level this week.

They too cite Fed policy risks that could be set to weigh like an anchor on the single currency into the summer period, although they also anticipated a countervailing response from the European Central Bank that might be likely to lift the Euro later in 2022. 

“The USD has historically weakened during Fed rate hike cycles, especially against high-beta commodity-exporter currencies but also against the EUR when the ECB has tightened in sympathy, as we eventually expect,” says Parisha Saimbi, a G10 FX strategist at BNP Paribas.

“We moderate our bullish EURUSD forecast in 2022 to reflect a weaker relative eurozone growth backdrop and higher energy prices. We expect EURUSD to rise to 1.14 in 2022 (from 1.18 previously),” Saimbi and colleagues said in a Tuesday forecast review.

With inflation potentially about to prompt the ECB into action, the Euro is likely to be sensitive to the March numbers released by Eurosta this Friday, although it would be an arduous task for it to sustain any moves beyond the 1.12 handle in the short-term.