Earlier FOMC officials unanimously talked about aggressive rate hikes to fight inflation, now, they are increasingly worried about the economy. Is it strong enough? How will the disputes among the Fed’s officials affect the EURUSD? Let us discuss the Forex outlook and make up a trading plan.
Weekly US dollar fundamental forecast
No one knows how the war in Ukraine will end, and how quickly China will suppress the COVID-19 outbreak. Geopolitics and the pandemic create serious problems for the European and Chinese economies, and uncertainty presses down the euro and yuan. However, the US dollar has its own difficulties. No one knows how high the Fed will raise the federal funds rate, and the turmoil in the US stock market starts to affect the greenback.
The decline in the global risk appetite is considered one of the key drivers of the US dollar strengthening. When the US stocks fall in value, the demand for the dollar rises, fuelling the EURUSD rally. However, everything has its limit. Forex rates are determined by capital flows, and when these flows reverse, intermarket analysis will fail. Thus, one of the reasons for the greenback’s strength is the outperformance of the US stock indices over the European ones. From 2009 to 2021, the S&P 500 was up by over 400%, while the EuroStoxx 600 was up only by 137%.
Dynamics of stock indexes
Source: Wall Street Journal.
The S&P 500 has had its worst opening since 1939, the longest losing streak since 2011, and is 16% down from its January highs, and it is poised to move into a bearish market, following the Nasdaq Composite. So, the capital outflow from the US is natural. According to Goldman Sachs, US stock ETFs have lost $37 billion over the past four weeks, the worst performance since 2018. Money flows out from the USA pressing down the greenback.
One of the reasons is uncertainty. On the one hand, investors expect the abandoning of the Fed put. It won’t be willing to support markets in case of a fall. The primary goal is to curb inflation, but amid such low real rates, the rate hike to 3% may not work out. For example, Paul Volcker raised the real rates to 10% in the 1980s.
On the other hand, some FOMC officials start talking about the dangers of an aggressive monetary tightening. Jerome Powell stresses the importance of a soft landing. Patrick Harker warns that the Fed should not ruin the economy. Mary Daly says the central bank must meet the 2% target in 5 years. Does it mean that up to this point the inflation will stay higher?
Weekly EURUSD trading plan
The ECB position, on the contrary, is getting clearer. Policymakers unanimously talk about raising rates in the summer, and Christine Lagarde dismisses the idea of stagflation in the euro-area economy. This circumstance, as well as Bulgaria’s intention to block the EU’s proposal for an embargo against Russian oil unless it is given the same benefits as Hungary, Slovakia, and the Czech Republic, supports the euro. If the price breaks out the resistance at 1.061, the EURUSD could be corrected up to 1.066, 1.0695 and 1.071, where traders will likely start selling.
Price chart of EURUSD in real time mode
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