FX Traders' weekly EURUSD fundamental & technical picture, market drivers, likely EURUSD direction.
The following is a partial summary of the conclusions from the fxempire.com weekly analysts' meeting in which we cover outlooks for the major pairs for the coming week and beyond.
This week we again minimize our usual discussion of overall risk appetite per our sample of leading global stock indexes. For the past 4 weeks they haven't helped us forecast EURUSD moves:
· The EURUSD has ceased tracking these indexes and has been falling for the past 4 weeks as it moves with its bearish specific fundamental drivers, rather than overall risk appetite, and it is likely to continue to do so this week. See the fundamental outlook section below for specifics.
· Indeed, the leading US and European indexes are moving higher, as increasingly dovish looks from both the Fed and ECB benefit stocks, while the fading expectations for USD rate increases create distinct problems for the ECB, as we discussed in our special report here.
EURUSD Weekly Technical Outlook: Downtrend Halted By Strong Support Plus Lack Of Further Bearish Fundamentals
EURUSD Weekly Chart October 13, 2013 to Present
KEY: 10 Week EMA Dark Blue, 20 WEEK EMA Yellow, 50 WEEK EMA Red, 100 WEEK EMA Light Blue, 200 WEEK EMA Violet, DOUBLE BOLLINGER BANDS: Normal 2 Standard Deviations Green, 1 Standard Deviation Orange. Green downtrend line from EURUSD peak of July 2008 to present, green uptrend line from August 2012 to present.
Key Take-Aways Weekly Chart: Why EURUSD Trend Change Imminent?
As the weekly chart above shows, the pair is virtually unchanged from last week's close.
There were no further comments from the ECB this week that further raised easing expectations, nor did US or EU economic data provide any surprises big enough to change expectations about Fed or ECB policy. Thus not surprisingly, last week's closing support level held, and the pair managed to stabilize, and even close modestly higher for the week.
While the pair remains in its 16 week trading range, hanging on at the low of that range. It remains at the lower edge if its neutral double Bollinger ® band zone. With Friday's close at 1.363, the current support zone around 1.36 -1.355 is holding, buttressed by five layers of converging support:
1. --The round 1.355 figure itself
2. --The green uptrend line dating from mid-2012
3. --The 50% Fibonacci retracement of the downtrend from mid-2011 to mid-2012.
4. --The 38.2% Fibonacci retracement of the bigger downtrend from July 2008 to June 2010
5. --Most importantly, the psychologically critical 50 week (aka 200 day) EMA in the 1.355 zone. For many medium and longer term traders, when something breaks below its 200 day moving average, that's the time to exit longs and open short positions.
Remember that the entire pullback has been both minor (about 1.8%) and measured, halting at each weekly support level. We've seen nothing to suggest the month's pullback is anything more than a normal technical pullback, fueled by the ECB easing speculation. No one is giving up on the EURUSD uptrend yet, especially with the uninspiring near term USD fundamentals described below.
Given these 5 kinds of converging support elements, we'll need some seriously bearish surprise to shift sentiment enough so that sellers mount a new challenge to this support.
What would those be? See the Fundamentals section below, where we also discuss why odds instead favor some kind of "sell the rumor buy the news" bounce higher, albeit still within the recent trading range.
Traders have been buying into ECB easing rumors, so barring a big surprise, the pair seems primed for traders to now sell the news, close out the EURUSD shorts and attempt to play the bounce.
As we've said before, a confirmed close below 1.35 (we allow for some wiggle room) is our signal that the pair has topped out for now and that the uptrend dating from mid-2012 is over for now.
Actually, the odds won't favor more downtrend until we get a confirmed move into the double Bollinger® Band sell zone, which begins around 1.36. This is a key level for all forex investors, as a new EURUSD downtrend will provide potent fuel for a USD rally against its other counterparts, for reasons we've discussed here.
Likely Trading Range This Week
· Downside: If we get that breakdown, then the only question would be whether it's going to test deeper support around 1.345 -1.34 (where both its 100 and 200 week EMAs reside) or settle into a new flat trading range centered around the 1.355 zone.
· Upside: If neither the ECB nor US data surprises, the odds favor some kind of "buy the news" bounce after the recent downtrend driven by a "sell the rumor" (of ECB easing) impulse. As we see from the weekly chart above, the first likely resistance for the bounce comes around 1.365, 1.37, and then 1.375. Both of the latter two are highs of prior weeks, buttressed by moving averages. The long term EURUSD downtrend line around 1.39 caps any likely bounce for the coming weeks.
Fundamental Outlook: Bearish Influence Of ECB Easing Expectations Spent?
Given the minimal net movement in the pair, it's clear that nothing over the past week had material lasting influence on the pair. Any examination of last week's fundamentals and temporary, minor market movers is valuable only to the extent that it offers lessons on what might move the pair in the near or longer term.
This week's economic calendar is potentially one of the most important in months, if not the year. In addition to being a typically packed first week of the month, it has a rare, highly anticipated new ECB easing policy announcement, as well as a set of reports most likely to influence Fed policy.
Focus Remains On ECB, Fed Policy
The extent to which any news influences the pair continues to be mostly a function of how strongly it influences expectations about:
· The new ECB easing measures coming expected to be announced at the ECB's meeting this Thursday June . Unless the ECB surprises with much bolder than expected easing, the pair is ripe for some kind of bounce or at least stabilization, within the recent week's trading range. Here's why:
o The 3 week downtrend that now sits at strong support (as noted above).
o Combine that fact with the recent EUR "sell the rumor" of ECB easing downtrend of recent weeks the lack of USD supportive fundamentals (low USD rates and the same mixed, mildly positive data) mean the pair has been moving more on EUR weakness due to ECB easing speculation rather than any USD strength.
· The Fed's pace and scope of tightening. Unlike most weeks, the first week of the month economic calendar has enough top tier data which could move the pair if it exceeds or misses expectations.
Speculation On Scope And Extent Of ECB Easing And Ramifications
The pair's minimal movement over the past week tells us there was little alter current expectations about the extent and scope of likely ECB easing, which continue to comprise some combination of the following:
- Suspend sterilization of its Securities Markets Program (NYSE:SMP), assuming Germany has dropped its opposition to at least some degree of pure debt monetization. The ECB is almost certain to do this sooner or later for reasons we wrote about in our January special report: Coming 2014 Explosion: EU Money Supply or EU Itself?
- A lending rate cut: Currently at 75 bps and marks the top of its interest rate corridor. A lower lending rate, under current conditions, might minimize the volatility of overnight rates (EONIA).
- A re-finance rate cut: Currently at 25 bps and below the current policy setting, the ECB provides as much funds at this rate as banks want, limited only by how much acceptable collateral a bank has. The consensus is for a 10-15 bps cut. The ECB also could extend the period for which is it willing to provide unlimited funds. Although EONIA has traded above the refi rate, a lower refi rate might produce a modest reduction in overnight rates.
- A deposit rate cut. It's currently 0%, and there is speculation that the ECB could set it at -25 bps, which would amount to a tax banks for leaving excess reserves at the ECB. This is the most controversial option because it has some secondary effects and has never been used over such a large currency area. Banks are likely to pass on the negative rates to customers, which would encourage large depositors to move funds elsewhere if they're large enough to have that option, thus eliminating the added liquidity this option is supposed to provide by encouraging banks to lend. As we've noted before, coming ECB stress tests are a strong incentive for banks to retain cash or deploy it in only the most conservative ways, thus defeating the purpose of the negative deposit rate and making its costs outweigh its benefits.
- A fixed-rate offer of cheap central bank funds, often referred to as a longer-term refinancing operation. Under the LTRO, banks could borrow unlimited amounts from the central bank in the form of loans with maturities of a number of years. The exact rate could vary with a given bank's commitment to lend the funds in specific areas.
The only news of note about ECB thinking was a report on Monday that ECB President Draghi admitted on Monday at a policy meeting in Portugal that if there were "too prolonged" period of inflation below current expectations, then that "would call for a more expansionary stance, which would be the context for a broad-based asset purchase program."
In other words, no QE is planned for now, but prolonged low inflation could put it on the menu.
Why This Matters: The Key Take-Aways
With rates already low, the first two options are unlikely to have much impact.
The fourth option, negative deposit rates, is the most interesting and most likely to have noticeable ramifications, both good and bad.
It's more radical and with coming bank stress tests may not help increase liquidity, and may even lower it by causing big depositors to move funds elsewhere, or, to prevent that, to banks absorbing that cost and finding other ways of recouping that expense.
The introduction of negative rates could spark a new leg down for the EURUSD for a number of reasons.
- It's never been tried in such a big currency zone (Denmark had done it briefly years ago) and so the uncertainty alone could bring EUR selling.
- Per a CitiFX note issued last week, European banks may well decide that rather than keeping Euros on deposit with the ECB (beyond the minimum needed), the best option would be to sell the EUR to fund purchases of higher yielding currencies. As for other alternatives:
- Lending to other European banks or (businesses that are not among the very most creditworthy) may not provide enough yield to justify the counterparty risk)
- Lending to non-financial "real economy" firms could be limited anyway by
- lack of demand for new loans from these businesses (the ones the ECB wants to help via easier credit), at least not at rates the banks will want given the risk
- the still growing number of non-performing loans in the EU's periphery, which keeps banks reluctant to lend there, especially in light of coming stress tests that will punish banks holding these riskier loans
- Yields on short term and low risk commercial and sovereign debt are too low, yet coming bank stress tests will penalize high exposure to the sovereign bonds of the EU periphery, which yield less than ever anyway.
Post ECB Announcement EURUSD Scenarios: What Could Restart The Downtrend Or Reverse It?
How low does the ECB want the EUR to go? That is the question.
· If the ECB wants to drive the EUR lower with the above expected measures, it will likely do so by providing forward guidance that gets markets expecting a QE program in the coming months unless EU inflation, and perhaps other key data, improve.
o If Draghi suggests QE could be coming if inflation doesn't pick up in the coming months, expect a test of lower support around1.355.
o If he gives a stronger suggestion that QE is more likely and/or coming sooner (perhaps by emphasizing the need to see improved data soon or mention of a QE plan being prepared), then a test of 1.35 is likely. If that breaks then tests of deeper support noted above are likely.
· If the ECB is ok with the EUR's current levels, or simply wants an incremental approach, then no surprises or deviations from the above steps are likely. In that case:
o Recent positioning data show big speculators at their most bullish USD versus the Euro since the EURUSD set a key low in July. That said it's hardly a huge overcrowding per recent COT reports. In contrast forexfactory.com's real time sample of retail traders has gotten slightly less bullish on the pair (thus slightly more bullish on the USD) and is now essentially neutral, split almost evenly between longs and shorts. Thus any short squeeze-driven bounce is unlikely to go beyond recent trading ranges.
o First likely resistance for the bounce comes around 1.365, 1.37, and then 1.375. Both are highs of prior weeks, buttressed by moving averages. The long term EURUSD downtrend line around 1.39 caps any likely bounce for the coming weeks.
o If the Thursday ECB easing is in-line with expectations, the pair's fate then shifts to Friday's monthly US jobs reports and whether they in any way change market views about the pace and timing of Fed tightening and rate hikes. IF US jobs shows surprising weakness, which would further undermine weakening expectations for US tightening, THEN we could indeed see a more sustained EURUSD bounce next week
US Monthly Jobs Reports: Little Potential To Hurt the EURUSD
Given the reasons for fading expectations on US rate tightening as we discussed here, even another solid upside surprise on the scale of the one we saw last month (which was discounted due to lower labor force participation) is unlikely to raise expectations about the pace and scope of Fed tightening.
Source: forexfactory.com calendar for week of June 1, 2014
NFP results have been improving in 2014, these haven't helped the USD versus the EUR. That's most likely due to the flat to falling rate expectations for the USD that have keep up demand for the EUR and EUR denominated assets. Thus we don't expect the coming jobs reports to materially influence the pair unless they can improve expectations for US rate increases.
So What's Needed To Break Current Support And Continue the EURUSD Downtrend?
In sum, we'll need new bearish fuel to keep the downtrend going. The likely source of that would be a bigger than expected easing package from the ECB, or a very strong US jobs report that raises Fed tightening expectations. Some other very USD-bullish news or risk off news could do the same thing, though we see nothing of that sort of news on the horizon. Geopolitical tensions continue to simmer but are unlikely to have meaningful impact on markets, as we discuss in our preview of the coming week here.
Other Fundamentals Worth Noting
EU Parliamentary Elections: No Short Term Impact But Longer Term Warning
While many in the media used terms like "political earthquake" or "seismic elections" to describe the gains by anti-EU parties, it's unlikely there will be any near term effects EU policy or the EURUSD, and may well be little in the way of longer term effects. Financial markets' certainly showed no discernible concern.
The big concern is that now needed further steps towards integration and centralized EU control over national banks and budgets (demanded by Germany and other funding nations as the price for their participation in funding risk sharing plans).
· The old guard itself has remained ambivalent about yielding meaningful sovereignty. The recent underpowered and underfunded EU banking pact is only the most recent example.
· Centrist parties (of both right and left wing orientation) are still dominant, as talks on choosing a new EC President and Commission should reveal as they begin this week.
· The anti-EU parties are a disparate group of national parties with no unified agenda.
· Although we've long held that EU voters and most of their leaders are not ready to commit to becoming the US of Europe, even the nationalist voters showed no clear opposition to some version of the EU.
· The ambivalent 43% voter turnout is hardly a clear call for change, and indeed suggests that the nationalist parties benefitted more from the protest vote than anything else, particularly in France. A majority of Ukip voters in the UK appear to favor remaining in the EU.
Longer term, the elections were an obvious warning that the EU needs to produce tangible economic benefits and show it can cope with financial crises and recoveries at least as well as traditional currency unions that have fully functioning federal governments and reasonably unified regulation over their economies.
US Data Continues To Outperform EU
While US data remains mixed, it remains good enough to keep up the slow but steady recovery theme, and, with key assistance from falling expectations for the pace of US rate increases, keep stock indexes and other risk assets moving higher.
For example, rail traffic, manufacturing PMI, and the 4 week moving average of first time jobless claims all continue to improve. The past week saw some solid durable goods, consumer sentiment and housing figures too. Even the GDP miss was universally shrugged off as attributable to temporary factors (like weather and falling inventories) that imply a coming improvement in Q2 GDP. See here for just one example of this interpretation.
Despite Coming ECB Easing, Weak Data, EURUSD Downtrend Restrained
Although the EUR is undermined by continued weak economic data and coming ECB easing, its retreat over the past month thus far looks like nothing more than a normal pullback within the current uptrend that began in mid-2012.
Each weekly pullback has stopped at the likely support level.
The uptrend line dating from mid-2012 shown has held thus far.
US Data: Same Story, Same Irrelevance
US data continues to be viewed as mixed but overall positive. Markets shrugged off Thursday's -1% preliminary US GDP figure, the first quarterly contraction in 3 years. US stocks closed higher, the USD hardly dropped at all, as the underlying causes were viewed as temporary factors (like bad weather or low inventory) that suggested better figures ahead.
The key point is that nothing in US data was seen as influencing Fed policy to tighten faster than currently expected.
Markets Behavior, Leaked Bernanke Comments Suggest Dovish Bias To Fed Policy
While the Fed has led markets to believe that it thinks the main interest rate will reach 1% by the end of 2015, investors clearly believe the central bank will be even more cautious as Quantitative Easing taper concludes later this year. The market is pricing in only ~ 50bp of tightening by the end of 2015. With the taper ending later this year, U.S. yields should be trading at much higher levels.
In addition to reasons we presented last week in our special report, 2014's Biggest New Investment Theme: Lower US Rates For A Much Longer Time, there is plenty of other evidence suggesting that markets are lowering expectations for the pace and extent of Fed tightening.
Note the recent price action in currencies, equities and treasuries
· Stocks: US and most other leading Western stock indexes continue to advance or hold steady, yet any hint of tightening in recent years has sent them lower,
· Bonds: For reasons covered in the above mentioned special report, US treasury debt yields have been falling since the start of 2014, and that trend has accelerated in recent weeks. Marc Chandler offered additional reasons for falling yields in a recent post. These include possible purchases by European banks (as part of their drive to improve capital ratios ahead of coming ECB stress tests) and investors shifting out of European bonds and into US treasuries as the ECB moves into easing mode.
· Currencies: The USD has yet to begin its long anticipated rally versus the EUR, despite the long anticipated rate advantage that was supposed to come from ECB easing and Fed tightening, as well as the continued outperformance of the US economy relative to that of Europe. What little advances it has made in recent weeks versus the EUR have come solely from EUR weakness resulting from growing expectations of ECB easing. The USD has also failed to advance much against other major currencies, even on days when the US economy posts strong top tier data, as we saw last Monday when we had solid durable goods, consumer confidence, and housing reports. Markets realize none of these are likely to change fed policy.
Slow growth and low inflation (and leaks that the former Fed Chairman Bernanke sees more of the same ahead) reinforce the above evidence that has markets believing that the central bank won't be raising interest rates anytime soon.
Indeed, if growth and inflation data don't improve, the central bank could even halt the tightening process. Rather than continuing to cut its treasury and mortgage bond holdings, it could reinvest proceeds from maturing Treasuries and mortgage bonds into new ones to keep rates low and thus provide continued support for the recovery.
Top Calendar Events To Watch
Beyond the ECB policy announcement Thursday and US monthly jobs reports Friday, here are the likely market moving events for the EURUSD, either directly or from their influence on the overall risk appetite with which the pair usually moves. See any good economic calendar for further details.
Sunday: China manufacturing (NYSE:MFG) PMI
EU: German preliminary CPI (which was a deflationary -0.2% last month), to the extent that it might influence speculation about ECB easing. More German deflation will feed hopes that Germany will not oppose stronger easing.
US: ISM mfg PMI, especially its jobs component, which could influence expectations for Friday's NFP results.
China: Non-mfg PMI, HSBC final mfg PMI
EU: CPI flash estimates
EU: Spain, Italy services PMIs
All: G7 meetings
--ADP non-farms payrolls (NYSE:NFP) change, which can be influential to the extent it influences speculation about the Friday official BLS NFP results. The ADP has been accurate on direction (beat or miss) but not reliably predictive of magnitude of the change.
--ISM non mfg PMI
All G7 meetings
EU: ECB rate statement, press conference: What we've been waiting for since the last meeting - the event with most potential to move the EURUSD. If it is less than or equal to expectations the pair likely moves up. If bolder plans than expected are announced, the pair could continue to drop past critical support and sustain deep technical damage.
US: Weekly new jobless claims
US: Monthly NFP and unemployment rates, also average hourly earnings
Some potentially big drivers but will need major surprises from them to fuel a breakout from recent trading range.
ECB still moving towards easing, Fed to tightening, but both according to data. That means they're both moving slowly enough to maintain trading ranges of recent weeks.
That said, it's the ECB that's more likely to make bigger easing moves sooner than the Fed will tighten, leaving our longer term bullish USD bias in place.
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Disclosure/disclaimer: No positions. The above is for informational purposes only. All trade decisions are solely the responsibility of the reader.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.