Fundamental Outlook for Euro This Week: Bearish

- Euro surges against US Dollar following Fed Announcement
- Is the Euro/US Dollar downtrend over as a result?
- Euro remains very strongly correlated to S&P 500

Euro forecasts against the US Dollar saw noticeable improvement on the week, as the USD suddenly finds itself at a clear disadvantage against key counterparts. The US Federal Reserve sparked a massive dollar tumble when it announced aggressive quantitative easing measures through its most recent meeting. The EUR/USD subsequently posted a record single-day gain, and momentum clearly remains in the European currency’s favor. Global investors have suddenly lost interest in the US Dollar as a safe-haven store of value, and the abrupt shift implies that the Euro could appreciate further at the US Dollar’s expense.

The coming week promises a steady string of European economic data, and any major surprises could alter short-term outlook for the domestic currency. First on the ledger, Germany and the broader Euro Zone will release key Purchasing Managers Index results for manufacturing and services indices. PMI releases have not necessarily forced noteworthy Euro/US Dollar volatility in the past, but they remain important leading indicators on the relative health of economic activity. Medium to long-term outlook for domestic economies and the euro itself could potentially shift on major shocks. Any surprises in subsequent German IFO, Consumer Confidence, and Consumer Price Index releases could have similarly noteworthy effects on medium-term Euro/US Dollar outlook.

Recent US Fed announcements leave the Euro at relative advantage versus the US Dollar, but we remain mindful that the Euro Zone offers comparable structural risks for the EMU currency. The Fed announced that it bought an almost-unimaginable $1.25 trillion dollars in US Treasuries and Mortgage-Backed Securities—tantamount to running the printing presses on the US currency. Yet Euro Zone structural deficiencies offer palpable political risks that cannot be ignored.

Traders will have to decide whether real risks of US Dollar devaluation outweigh those of EMU instability. For now it seems that markets are far more concerned with excessive US Dollar supply and that it has lost its status as a safe-haven store of value. Yet sentiment could just as easily shift on deterioration in EU relations. We believe that the euro could continue to gain against the US Dollar through the near term, but it is critical to note the danger of an abrupt destabilization in EMU country dynamics.

David Rodriguez is a Currency Analyst at FXCM.