EUR/USD rally stalls after the ECB’s hawkish tilt
The world’s most traded currency pair has been on a hot streak recently, with a six-day winning run not seen since last September. The hawkish pivot by the Fed has been followed, rather belatedly some feel, by policymakers at the ECB, as President Lagarde raised the alarm about rising price pressures in the region at last week’s meeting. The recent rebound has been impressive with the long-term downward trend pausing for now.
Policy shift by the ECB, but markets too expectant?
The governing council at the ECB seemingly stood up and laid the groundwork for a change in guidance, surprising many who thought the ECB would keep its “wait-and-see”, more dovish bias. Risks to prices are now seen as tilted to the upside, despite lingering expectations that inflation will ease later in the year. There is now much focus on the March ECB meeting, which could see the bank announce an accelerated tapering alongside new staff projections.
After last week’s surprise, the market was starting to believe the bank might begin to raise rates in 10bp increments perhaps as early as June, with four hikes by year-end. However, this pricing of tightening does seem overly aggressive as a revised taper timeline would only be able to bring forward the first hike to early in the fourth quarter, which means the ECB delivering at best, two 10bp increases this year.
A sharp widening in bond spreads between the peripheral European countries and German yields may also cool rate hike expectations and the bank’s new “hawkishness”. Interestingly, we note the comments over the weekend of a known hawk on the ECB governing council, who favours 25bp rate increases, but which would start at the earliest in October. Yesterday, President Lagarde also took the chance to implicitly push back against the market’s pricing, stressing how the policy shift would be gradual.
EUR/USD pauses at long-term trendline resistance
The jump in the major after Lagarde’s pivot followed on from a strong rebound from last week’s 1.1121 two-year low. The weak dollar environment together with stronger-than-expected inflation prints across the eurozone had also seen some position-squaring. Last Thursday’s surge took prices through a resistance area that included both the 100-day simple moving average at 1.1424 and the downward trendline from last June.
The main challenge for the euro is now holding that resistance zone that has become strong support, and then advancing above 1.1482 where the major peaked early this year. A break past here opens up a test of 1.15 and the mid-figure area where the 38.2% Fib level of the June to January move at 1.1558 resides. Any breakdown below 1.14 leaves the single currency prone to a quick drop to the 50-day simple moving average at 1.1320.