EUR/USD Exchange Forecast to Test 1.20 in 2016

The euro fell below 1.10 against the US dollar this week signalling that a new run lower was potentially commencing.

However, a strong recovery could be on the cards in coming months warns one of Scandanavia's leading research houses.

The euro to dollar exchange rate (EURUSD) broke below the 1.10 support zone in the wake of the October FOMC statement which pointed to the possibility of interest rates being raised in December.

The decline represents a significant development from a technical perspective - the dollar had to push the euro below 1.10 to break the 2015 stalemate which has seen the pair trade in the range of 1.10 - 1.15.

Analysts at Danske Bank have however suggested weakness will likely be temporary.

The call is in sharp relief to consensus forecasts for the euro to fall below the 1.10 mark around year-end, ahead of declines towards lows around 1.05 by September 2016.

Forward markets are pricing in a rate of 1.15 by September 2016 while consensus institutional predictions are pricing in 1.07.

"We see EUR/USD range-bound between 1.10 and 1.16 in the coming months with a move lower as markets buy into a first Fed hike in early 2016," says Christin Tuxen at Danske Bank, "notably, our not-so-aggressive call on ECB easing (a mere extension of QE) limits the EUR downside from euro-area monetary policy."

The risk to this view therefore lies in the ECB's warning that they could consider cutting the base rate further, most analysts we have heard from since the October 22nd ECB policy meeting agree this is where the lion's share of euro downside would emanate from.

For now currency markets will retain a wait-and-see mode concerning ECB interest rates falling from current levels; this confirmed by the euro to dollar exchange rate remain above the 1.10 line and therefore within its recent ranges.

Looking at the dollar side of the EURUSD equation, the US yield curve is in for a repricing around the first Fed hike, "but we think the market will price in a relatively shallow hiking cycle and thus cease to be a USD positive beyond Q1 2016" says Tuxen.

Danske think the low in EUR/USD will arrive in 3-6M and now see the cross at 1.12 in 3-6M (1.10 previously) with the possibility of dipping temporarily towards 1.10.

"Given that we see no sustained trend in relative monetary policy in H2 16, we expect to eventually see a gradual move higher in the cross towards the levels warranted by medium- to long-term fundamentals," says Tuxen.

Notably, the pair is now forecast at 1.20 in 12 months which represents a significant gain.

Our forecast tables presently see this as being an outside view with most seeing the potential for gains to at least 1.05.

Barclays and Goldman Sachs even continue to maintain the view that EURUSD will decline to parity.