Fundamental Forecast for Euro: Bearish

- European Central Bank takes another small step in unwinding stimulus by upping collateral standards
- The pace of Euro Zone inflation improves, but the annual figure is still contracting
- Are technicals leaning towards a EURUSD breakout that spurs reversal or trend continuation?

There is a lot to watch when trading the euro in the days and weeks ahead. In the background, we have a withdrawal of stimulus that is starting to build momentum, developing interest rate expectations and concerns that the Euro-region economy will fall behind in the bid for recovery as government spending tapers off and exposes the true cut of the nation’s health. However, traders will more concerned with what is in the foreground. A range of notable economic indicators will offers some sense of predictability for volatility. But, the intense threat of an impending break and trend revival rests with intangible fundamental dynamics like liquidity and the influence of a domineering US dollar.

It should come as no surprise to any trader that risk appetite is the primary catalyst and fundamental fuel for the financial markets. After an eight-month trend founded largely on the investors’ need to reinvest funds and take advantage of a historical rally; we have seen confidence turn into hesitation and concern. No other currency translates this sentiment into price action quite like EURUSD does. A big-picture look at this pair shows an intact, rising trend of higher lows from March; but the past few weeks have turned to chop that is starting to develop an ominous bias. This unnatural sense of calm is reason enough to worry about a potential breakout this week; but aligned with the unusual market conditions that back this liquid pair up, the probability for a violent end seems far more remarkable. Though a true trend development will come on the basis of underlying sentiment, the currency market will likely take its cues from the US dollar – which has been battered for its safe haven qualities. Adding to the torrential calm, the US markets (adding the greatest single injection of liquidity in the world) is looking at an extended holiday weekend starting Thursday; and in turn, a full-week of notable economic releases will be condensed into just a few days. A constant application of event risk and shallow market depth may be the final ingredients for a breakout.

For its own part, the European economic docket is stocked with significant market-movers of its own. At the start of the week (before US liquidity drains), we will be offered a thorough reading of sentiment and growth. The German GfK consumer and IFO business confidence readings will define growth expectations into the months ahead. The former will be particularly important considering the German Finance Ministry recently suggested fourth quarter regional growth would slow from the strong third quarter showing owing to consumers’ efforts to retrench themselves as jobs and wages recede. Perhaps the most visible release of the week, the second (final) reading of 3Q GDP will offer much needed detail on the health of the various sectors. It is important to weigh how much of the recovery to this point is on the back of German citizens, businesses, trade and government. However, trumping the quarterly figure for timeliness, we will also see the first measurements of the November PMI figures. Though they cover predominantly service and manufacturing based activity, it is considered a good gauge for broader growth. Then, after the US markets close up shop early, euro traders will have many more notables including German CPI and Euro Zone confidence readings for most of sectors.

In the above mix of scheduled and unscheduled risk, we will likely find the break in EURUSD – whose liquidity alone will likely carry those other euro crosses that don’t already have a direct link to risk along with it. However, we should not lose sight of the big picture. After we see a meaningful reversal in speculative influences, the influence surrounding forecasts for growth and interest rates as well as efforts to improve fiscal health will likely gain prominence.

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