Euro-Dollar Range Holds For Now but Risk of a Move Lower is Growing 

© Pound Sterling Live 

- EUR needs to break narrow range for direction - J.P. Morgan.

- Adds, the risk of a break to the downside has grown this month. 

- BMO eyes vulnerability, warns of central bank fireworks at end-July.

The Euro stabilised at the bottom of its recent trading range Wednesday but the threat of a break to the downside has grown this month, according to technical strategists at J.P. Morgan, and BMO Capital Markets has warned that central bank decisions at the end of July could result in fireworks.

Europe's single currency was pushed back to the bottom of a six-week range spanning the distance between 1.1180 and 1.1420 after solid U.S. retail sales led some economists to question the market's assumption that two full Federal Reserve interest rate cuts are coming before the end of September. 

Tuesday's data came hard on the heels of a resilient showing from inflation in June, revealed by official figures released last week, and at a time when the Dollar had already received a drubbing and as the market increasingly anticipates that the European Central Bank (ECB) might beat the Fed to the proverbial punchbowl. 

Technical analysts at J.P. Morgan have been warning the risk of a break below 1.12 and resumption of a longer-term downtrend in the exchange rate has been grown since the end of June, although it appeared to stabilise on Wednesday.

"Ultimately, it takes a decisive range breakout between 1.1179 and 1.1362 to receive fresh directions, which is also reflected in the USD index, where we’d need a range breakout between 96.25 (minor 76.4 %) and 97.77 (int. 76.4 %) for directions," says Thomas Anthonj, a strategist, in a note to clients. "The failure to clear a minor c-wave projection of a classical a-b-c recovery at 1.1422 (c = a) in EUR/USD two weeks ago, increased the risk of having resumed the long-term downtrend significantly." 

Above: Euro-to-Dollar rate shown at four-hour intervals. 

The "A-B-C" referred to by Anthonj is a chart pattern that technical analysts believe indicates a change of trend is in the pipeline. One had been forming on the Euro-to-Dollar rate charts during the six-weeks of tight range-bound trading up to Wednesday but the pattern was not fully-formed when it broke down. 

"In order to get lower targets at 1.1059/26 (Fib.-projections) and at 1.0864 (76.4 % of the 2017- 18 rally) back on the radar again, [it would] take a decisive and confirming break and hourly close below 1.1179 (int. 76.4 %, i.e. below 1.1150)," Anthonj writes, referring to price points that represent important technical support levels for the Euro. 

Anthonj says only that the risk of a resumption of the earlier downtrend has increased, not that a break below 1.1179 is going to happen. He also says a move above 1.1348/62 would pave the way for a steeper correction higher towards 1.16. The latter is also the base-case of one other influential technical strategist, although both sets of views take into account only studies of trends and momentum on charts.

"EUR/USD sold off yesterday and attention has reverted to the March and mid-June lows at 1.1181/76, while these hold the downside, an upside bias will prevail. We should then see recovery towards the 200 day moving average and early June high at 1.1320/48," says Karen Jones, head of technical analysis at Commerzbank. "Above the 1.1412 June high we look for resumption of the up move and a test of the 1.1570 2019 high. Slightly longer term we target 1.1815/54."

Jones bought the Euro-to-Dollar rate at 1.1208 this week and is targeting a move up to 1.1390 in the short-term, but some analysts who look at the Euro's 'fundamentals' rather than technical studies are warning the end of the month could be a volatile time for the single currency. 

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

"We think the last 24-48 hours of FX market activity have seen investors "re-price" GBPUSD and EURUSD for a mix of wider economic growth differentials, central bank policy divergence and/or heightened political risks. This makes sense to us," says Stephen Gallo, European head of FX strategy at BMO Capital Markets. "July is going to "end with a bang" as far as central bank rate decisions are concerned, so those event risks are acting as a braking force on both pairs and FX volatility generally."

Europe's single currency faces a tug-of-war with the Dollar later this summer as central banks on both sides of the Atlantic look to support their economies with interest rate cuts in the hope of someday meeting inflation targets, which have slipped further from view of late amid a broad global growth slowdown. 

After its longest expansion in history the U.S. economy is widely believed to be headed for the rocks. Growth was always likely to slow in 2019 after the economy was pumped up last year by White House tax cuts but the U.S. trade war with China is now threatening to see this slowdown become more malign. 

The Federal Reserve is now expected to cut its interest rate to 2.25% on Wednesday, July 31, and to follow up with another rate cut in September after Chairman Jerome Powell neglected to discourage markets from this view in his biannual update to Congress on U.S. interest rate policy last week. 

There's now increasing speculation the ECB could beat the Fed to the proverbial punchbowl by cutting its own interest rate as soon as July 25. Not so long ago, markets had seen the ECB as more likely to offer support to the ailing Eurozone economy in September. 

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

BMO's Gallo has warned of volatility because beyond that, much of what happens to the Euro-to-Dollar rate beyond the next fortnight will be determined by what the ECB does next Thursday and what the Fed decides on July 31. Quite how big the rate cut anticipated for the end of this month turns out to be, and whether the U.S. central bank indicates that it's minded to follow up with another cut some time soon after, are both key questions. 

"Against the backdrop of slowing world growth the market is poised for what could be the start of an easing cycle by the Fed. That said, the dovish stances of most other G10 central banks is offsetting the impact of potential Fed action on the USD crosses. We expect the ECB to cut its discount rate further into negative territory at its Sep meeting," says Jane Foley, head of FX strategy at Rabobank. "The dovish tone of other central banks will remain a constraint on USD downside." 

Rabobank forecasts the Euro will fall to 1.10 before the end of September but that it should begin to climb slowly thereafter, regardless of anything the ECB does, given the Federal Reserve will also cutting its interest rate steeply. However, with the ECB seen keeping European bond yields pinned to the floor, the upward climb in the Euro-to-Dollar rate is likely to be slow burn. Rabobank's forecast for the exchange rate at the end of June 2020 is just 1.15.  

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