Key levels: EURUSD respects trend support but holds low
The euro continues to trade sideways in a horizontal channel but has respected trend support as it approaches support at 1.0770.
Markets have been short on the euro, and since the beginning of May the euro has sold off from the range high at 1.0990 resistance.
More recently, moves higher in EURUSD look capped by the 200MA on the 4-hr chart. Also watch trend support from the low on 23 March (blue line), which could prevent a move lower into support at 1.0770.
I’m waiting for the market to indicate a direction: either through a close above 1.0897 and back into the higher end of the range, or a close below trend support (blue line) towards 1.0770.
The fundamental outlook for the euro is uninspiring. The European Union (EU) is divided over ideological differences regarding fiscal support for countries devastated by the pandemic, and more recently German courts ruled against the ECB’s QE program in its current form (PEPP excluded). Then consider multi-year sluggish eurozone growth as well as equity markets shrinking by market cap and you can see why markets are bearish on the euro.
However, positioning is key. A bout of good news could see a lot of shorts unwound, and we’ll be watching the European Commission’s suggestions for a recovery fund later in the week.
Chart of the day: EURUSD
The euro extended its rally to 1.1170 on Tuesday after the Federal Reserve cut the benchmark rate by half a percentage point to a range of 1%-1.25% in its first emergency move since the GFC, sending the US 10-year Treasury yield below 1% and crashing the US dollar.
The EURUSD came off the multi-year low of 1.0783 seen on 20 February and has gained almost every single day since, thanks to the broad weakness of the USD and unwinding carry trade given the higher volatility.
The pair is now firmly running above the 10-day EMA, with RSI just running into the overbought area. The upside move is capped by the long-term descendant trend line coming from January 2019. A breakout here will pave the way to 1.12 followed by 1.2339/49 area. On the flip side, 1.0990 is the key support level, which was tested a couple of times during October and January.
ECB president Christine Lagarde joined her counterparts, expressing that the central bank is ready to take “appropriate and targeted measures”, despite being reluctant to further cut rates into negative territory. The market has priced in an 86% chance of 25bp cut in the 12 March meeting. Meanwhile, fiscal stimulus and more bond purchasing are being discussed. The EUR would be under pressure should we see these actions come in effect.
Italy is our focus. It’s worthwhile to see the chart below, where the white line represents the yield spread between the 10-year bond of Italy and Germany. Yellow refers to EURUSD.
White: Italy 10-year bond yield - Germany 10-year bond yield. Yellow: EURUSDSource: Bloomberg
With the death toll climbing to 79 and the total number of infected 2502, investors are therefore running away from Italy’s bond market on the concern of looming recession in the first quarter, causing the increasing yield spread relative to the German bund (white line goes up).
The chart speaks for itself. EURUSD usually declines when the yield spread widens. Will the pair reverse its current trend this time?
Chart of the day: Can the euro bears be stopped?
The euro has been hammered with nine consecutive days of lower lows as poor eurozone economic data spooks investors who continue to funnel funds into the USD in a safe haven flee. We’re watching the 5 day EMA for a signal the steep bear trend is ending.
Poor data and fears of a coronavirus economic fallout have weighed heavily on the euro, which relies considerably on trade with China. Meanwhile the USD is relatively isolated to the outbreak and less dependent on global trade, so less exposed to an economic fallout in China. In this respect, the US, its currency and arguably its stock market, become a safe haven amid global uncertainty.
Markets have been betting on a euro recovery for some time now so this is not just a coronavirus story. It’s also a euro story: reality has kicked in that the assumed recovery has not eventuated. German Q4 GDP growth came in lower than expected on Friday at a dismal 0% growth.
EURUSD is heavily oversold at this point. The weekly Commitment of Traders report shows EUR net shorts at 85,669 contracts and in the 27th percentile of the 12-month range. The euro looks considerably oversold and counter-trend traders will be watching this one closely.
The pair opened higher in early asian trading today at 1.0823 but we won’t say the bear trend is over until we see a daily candle close above the 5 day EMA (red). So long as we continue to see daily candles close below the 5 EMA, EURUSD moves lower.
For gold traders, the lesson here is that you want to be trading an appreciating asset against the weakest currency. Long XAUEUR has been a golden trade during the EURUSD bear trend. If you were to take the view an asset was falling in value, you’d want to trade it against the strongest currency. Right now that’s the USD.