• EUR/USD outlook left hanging in balance
• As job data poses upside risk to Fed rates 
• But ECB policy stance could insulate EUR
• Fed chatter may limit scope for a rebound 

Image © European Central Bank

The Euro to Dollar exchange rate was turned away from 10-month highs last week, leaving the outlook hanging in the balance and meaning it might be fortunate if able to avert further declines over the coming days.

Europe's single currency tumbled on Friday as U.S. bond yields rallied and Fed Funds rate futures adjusted to imply a move to 5% and beyond after a January surge in non-farm payrolls report appeared to undermine the prospect of an impending pause in the Federal Reserve (Fed) interest rate cycle. 

"This reflects tightness in the labour as well as scope for further supply shocks. We have been expecting the USD to find some traction into the middle of the year as the market adjusts to a ‘higher for longer’ Fed view," says Jane Foley, head of FX strategy at Rabobank. 

"While we have been maintaining a 1 month forecast at EUR/USD1.09, we expect a move to EUR/USD 1.06 in 3 months," she adds.

The risk is this week that Fed officials prep the market for a March increase in estimates and forecasts for how high interest rates might ultimately have to rise for them to be confident that inflation will return to its 2% target as they make their way around the speaking circuit.

Above: Euro to Dollar rate shown at daily intervals with selected moving averages and Fibonacci retracements of January and November microtrends indicating possible areas of technical support. Click image for closer inspection. 

Just last week Chairman Jerome Powell said in February's press conference that as little as "a couple" more quarter percent increases in the Fed Funds rate might be all that's necessary to see the back of inflation, and the wage growth did continue to soften in the latest payroll report.

Softening wage growth could mean that it's possible for inflation to return to the target even with unemployment remaining at historically low levels, which would then obviate any need for even higher interest rates, though everything depends on how Federal Open Market Committee members view the data.

"During 50 years of Cumberland’s history, we have observed many types of inflation cycles and witnessed various responses by the Federal Reserve and the federal government. We’ve seen attempts at “jawboning.” Those didn’t work. Cheerleading — the WIN button (Whip Inflation Now). That didn’t work. Wage and price control attempts. They didn’t work," says David R. Kotok, chairman, chief investment officer and a co-founder of Cumberland Advisors.

"Our current view is that the Fed will aim for a 5% or so federal funds target rate and then pause for a few months or maybe for the whole year. Of course, any event can change that trajectory. So the best answer to the question, where will interest rates be a year from now or two years from now is “I don’t know.” That’s my best guess today, and I am prepared to change it quickly if needed," he adds in a late January market commentary.

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Above: Financial model-derived estimates of probable trading ranges for selected currency pairs this week. Source Pound Sterling Live. These ranges were updated following initial publication to correct for data entry errors. (If you are looking to protect or boost your international payment budget you could consider securing today's rate for use in the future, or set an order for your ideal rate when it is achieved, more information can be found here.)

While an extended Dollar rally would likely weigh on all currencies, the Euro could be insulated from this to an extent given the open-ended interest rate outlook articulated by the European Central Bank last week, and more so if ECB officials are obliging while out on the speaking circuit themselves this week.

The ECB was resolute in confirming that continental interest rates are sure to rise further in March and likely to be lifted again in the months thereafter, albeit in still-undetermined increments.

"We are certainly not there now, nor will we be in March, given that we will rely on underlying inflation indicators and pressure that we see very, very clearly nowadays," President Christine Lagarde said last Thursday.

"What will happen next, as I said earlier on, is going to be a factor of how much more ground we need to cover, and there will be ground to cover most likely, but it will be data-dependent," she added in the February press conference. 

Speakers scheduled to appear publicly this week include Robert Holzmann, head of the Austrian central bank, who's known to be among the most hawkish on the ECB Governing Council though his address at the National Bank of Hungary is bookended by appearances from multiple Fed officials.