EUR/USD Rate Shoots Higher as ECB 'Chickens Out'

The euro to dollar exchange rate (EURUSD) has shot higher as markets express disappointment with the size of today's announced interest rate cut an expansion to the asset purchase programme at the European Central Bank.

The ECB has cut the basic deposit facility by 10 basis points to -0.3%, a cut that was forecast by most leading economists.

The euro has however shot higher in the wake of the cut confirming that markets were perhaps overly agressive in their positioning on the euro short trade.

The relief rally confirms that the ECB really had to get agressive on the cut and perhaps extend beyond market expectations. In short this was a game of chicken, and the ECB has lost.

Further euro weakness was prompted in the ensuing press conference when ECB Draghi failed to deliver on his promised agressiveness on monetary easing.

The ECB merely expanded its asset purchase programme to include regional debt - markets had hoped for something more, for instance confirmation of rumours that a two-tiwer deposit rate system would be introduced.

“We are not sure why, having promised so recently to be focused on the external risks to the Eurozone economy the ECB was willing to disappoint the markets in this way," says Alastair George, Chief Strategist at Edison Investment Research.

While the ECB claims not to target the exchange rate, the rapid depreciation of the euro since October may have given them pause suggests George.

"Euro gains as a direct result to interest rate cuts and an extension of QE feels counter-intuitive, yet highlight the extent to which Draghi has historically surpassed market expectations in announcing new measures," says Richard de Meo at Foenix Partners.

What was delivered was decidedly lacklustre when compared to expectation. In fact, Draghi sounded an outright optimist on occassion noting "favourable liquidity conditions" and an "appropriate monetary policy stance." He did leave the door  open to further action.

Euro conversions rallied ahead of the decision when the Financial Times broke a 'leak' that the ECB would not cut interet rates.

The page has been taken down but today, if anything, we have learnt something about trusting such leaks.

EURUSD Foretold of a Recovery

The decision on how to alter policy settings will set the tone for the broader euro exchange rate complex for much of the year ahead.

In currency market action ahead of the Thursday decision we saw EUR/USD chart a minor new low around the now obvious support at 1.0550.

The exchange rate appears intent on building a base at these levels but it will count for nought should the ECB deliver a knock-out policy blow.

Be under no illusions, markets have sold the euro aggressively in order to price it a levels justified with aggressive rate cuts and/or expanded asset purchases.

Any disappointments will see the euro rocket higher.

Technical analyst Karen Jones with Commerzbank in London says technicals are advocating for a rebound:

"The daily RSI has not confirmed the recent low, we have a 13 count and a TD perfected set up. This non-confirmation of the down move continues to worry us as we test major supports, namely 1.0560/20, the 2000-15 support line and April low and also the 1.0457 March low, we favour a near term corrective rebound."

We would expect a bevy of stop losses to be placed tight below the support zone at 1.05 meaning that should the ECB deliver an aggressive policy bag and message the run lower could be sharp.

Likewise, a huge chunk of the market will be positioned for a strong relief rally on perceived meekness which could well see us retrace much of the losses registered in November.

We have meanwhile just reported that Deutsche Bank believe the euro is firmly on the road lower with levels towards 0.85 USD being trargeted long-term.

The hypothesis of Euroglut has been confirmed in their view - and as a result markets should position for steep losses, regardless of the near-term fluctuations witnessed today.