EUR/USD Daily Forecast – Downside Risks Emerge as Risk Appetite Creeps In

The euro benefited from a shift to risk aversion and a weaker dollar last week as the markets continued to aggressively price in a rate cut in the United States.

Fed Chair Powell, in a statement on Friday, confirmed that the policymakers will act if necessary. There was certainly an element of urgency in his unscheduled statement which was in sharp contrast to comments from several Fed members earlier in the week that attempted to downplay the potential impact of the Coronavirus.

There has been some chatter that policymakers may act as soon as this week. This should theoretically keep the dollar under pressure and provide some relief to risk assets.

Another scenario might be that Powell delivered the statement to settle the markets ahead of the scheduled March meeting in about two weeks. In either scenario, the most important consideration is whether policymakers deliver on what the markets are expecting.

The CME FedWatch tool already indicates that a larger than usual 50 basis point cut is fully priced in for the March meeting. Beyond that, the data showed a 45% chance that the interest rate will be 100 basis points lower than it currently is by June.

If the markets are getting ahead of themselves, the dollar stands to pare back losses. The Federal Reserve is not known to deliver aggressive and sudden easing and it is difficult to speculate whether the current virus outbreak warrants bold easing measures in the manner that the markets are pricing in.

Further, the euro was impacted by short-covering last week as the single currency is often borrowed to fund higher-yielding investments. The urgency for short-covering is likely to dissipate considering that Powell has strongly hinted that a rate cut is coming.

EUR/USD may pull back from current levels, especially considering that a notable technical area of resistance is in play. At the least, it seems reasonable to expect the upside momentum from last week to die down.

Technical Analysis

The 100 and 200-day moving averages are in play for EUR/USD. Further, there is a horizontal level at 1.1074 that has been well respected in the past. While the pair is trading above the 100-day MA on an intraday basis, the daily close relative to it will be important.

This is an area where sellers may step in, especially if the equity markets extend on early-day gains and a clear shift in risk sentiment is seen.

Downside support for the pair is found at 1.1000. This price point served to hold the pair higher from November until January on several attempts and is likely to hold buyers over the near-term if the pair turns lower.

Bottom Line

• Risk sentiment can potentially shift as it has become clear that monetary easing is on the horizon. This should theoretically remove the urgency in euro short-covering.
• The risk of a dollar recovery is starting to rise as the markets are aggressively pricing in rate cuts. While the Fed Chair Powell has strongly hinted a rate cut is coming, the Fed’s sense of urgency may not be aligned with the markets.