Fundamental Forecast for Euro: Bearish

- European Central Bank leaves rates unchanged despite high unemployment
- German Retail Sales report boosts optimism on domestic consumption
- Yet Euro Zone Industrial data points to weakness in demand

A busy week of economic event risk left the Euro almost exactly unchanged against the US Dollar, and it seems markets remain incapable of breaking the EUR/USD from its multi-month range. Forex options markets showed that volatility expectations remained high ahead of the European Central Bank interest rate decision and the US Nonfarm Payrolls report, but sharp post-NFP moves were incapable of pushing the EURUSD below the key 1.4000 mark. Illiquid late-week trading invited a brief foray below the psychologically significant 4000 level, but a quick bounce signaled that few were willing to force a larger breakdown in the key currency pair. If the combination of an ECB rate decision and a US NFP release were not enough to break the Euro from its range, we see relatively little scope for big moves in the week ahead. Indeed, short-term volatility expectations have fallen substantially ahead of what may be yet another week of range trading.

Euro Zone economic event risk will likely take a backseat to broader financial market flows as the Euro/US Dollar pair remains tightly correlated to key risky asset classes. The rolling correlation between the EUR/USD and Reuters CRB commodity index is once again near record-highs. It is subsequently unsurprising to note that Gold, Oil, and the US S&P 500 remain in similarly choppy price ranges prices through the past month of trading. The end-of-week tumble in the S&P index leaves it at risk for continued declines, but we will have to see a noteworthy break before calling for similar moves in the EUR/USD.

Traders should keep an eye out for financial market reactions to the US ISM Services report and surprises from final revisions to Euro Zone Q1 GDP results. The former will shed light on the all-important US Services sector and has historically produced big moves in the S&P 500 and US Dollar. Markets remain on edge following a worse-than-expected NFP result, and we will need to see promising signs for US economic conditions to bolster investor confidence. A sharp drop in domestic equities could easily lead to similar moves in the US Dollar—potentially sending the EURUSD below key support. Later-week GDP figures could likewise provide impetus for Euro volatility. Recent revisions to Q1 UK GDP results sent the British Pound substantially lower against major counterparts. Although admittedly unlikely, similar changes to Eurostat’s estimates for domestic economic growth could send the Euro lower versus major counterparts.

EUR/USD volatility expectations remain muted, but we cannot rule out flare-ups in financial market tensions. It will be critical to watch whether many many key asset classes can break out of their month-long trading ranges—potentially sending the EURUSD beyond range-lows at 1.4000 or highs near the 1.4200 mark.

DailyFX provides forex news on the economic reports and political events that influence the forex market.