Euro-to-Dollar Rate Recovery Underway as Bund Yields Offer Support and Pair Reaches Key Level

- EUR/USD rises to major trendline in make-or-break moment.

- Break higher would give way to renewed uptrend for the Euro.

- Bund yields offer support to Euro as Dollar comes under threat.

© European Central Bank

The Euro-to-Dollar rate rose to a key technical level Wednesday that could soon give way to a renewed uptrend for the single currency.

EUR/USD has tested a major downward sloping trendline running from April highs and now appears likely to prevail over it. A break above the 1.1630 level would signal a continuation toward the July high of 1.1790.

Above: Euro-to-Dollar rate shown at daily intervals.

The pair has formed a bullish 'three white soldiers' Japanese candlestick continuation pattern on the charts, which further supports the idea a new uptrend is in the making.

On the fundamental front the Euro is poised to gain strength from a possible increase in German bond yields, which have reached a key support level at 0.3% and look ripe for a rebound higher. Bund yields are positively correlated with and important for the Euro because they represent the interest rate that large investors earn on their cash.

For German yields to fall the European Central Bank would have to back-peddle on the tapering off of its bond purchases, according to Carsten Klude, chief economist at M.M. Warburg.

“In order to get 10-year Bund yields below 0.30 percent, investors must get the impression that the ECB will not implement its monetary policy change,” says Carsten Klude, chief economist at M.M. Warburg. “If the economy does not gain momentum, Bund yields should continue to decrease.”

This seems less rather than more likely indicating yields will probably bounce - potentially leading to a corresponding bounce in the Euro as well.

Above: 10-year German government bond yield. Source: Bloomberg News.

The yield has touched the 0.3% level on multiple occasions and the result has always been the same: it bounces. A bounce now would probably provide enough support to the Euro for it to clear the trendline and begin a new uptrend.

The Dollar, meanwhile, is pivoting lower after months of strong gains and analysts are forecasting further downside for the currency.

The two more interest rate hikes likely to come from the Federal Reserve (Fed) this year have already been fully priced into the Dollar, according to analysts at Commerzbank, so the Fed is unlikely to provide support to the Dollar for a while.

"The Dollar probably now requires a new idea to drive it higher, says Viraj Patel, an FX Stretgist at ING Group. "There is no fresh news or impetus for the Dollar to rise."

Another theme driving the Dollar lower is concern that President Donald Trump may be seeking to push it down given his numerous previous comments on the currency and recent criticism of the Federal Reserve.

ING's Patel says there is a possibility Trump could cite a 'national emergency' as grounds for using executive powers that enable him to indirectly intervene in the market and weaken the Dollar. He has used the same argument to impose tariffs.

Trump could use the Exchange Stabilization Fund (ESF) to sell dollars and buy currencies like the yen and euro without making a national security argument.

But the ESF has only around $20 bn of US Dollar assets, which wouldn't be enough to take on a $4 trillion per day market. So it's possible the White House could choose to make a national security case in order to commandeer the +$4 trillion balance sheet of the Federal Reserve.

Another factor in favour of a EUR/USD revival is fresh talks between the US and China, which could yield an easing in tensions over trade between the two. Previously, an escalation in the tariff conflict had driven a rise in the US Dollar by increasing demand for safe-haven assets. A reduction in tensions would do the opposite.

Rising political uncertainty in the US could also be a catalyst for a weaker Dollar if it places a question mark over Trump's position in the White House.

Paul Manafort, Trump's former campaign manager, was convicted of fraud and campaign finance violations this week while the president's ex-attorney Michael Cohen pleaded guilty to similar charges.

If the developments hit support for the Republicans at the midterm elections in November then they would not only limit hi ability to implement his own policy agenda, but could give rise to an opposition attempt at impeaching him.

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