Fundamental Forecast for Euro: Neutral

- Euro holds gains against US Dollar on optimistic economic outlook
- European Central Bank comments tips Euro higher
- Shift in forex sentiment points to Euro/US Dollar gains

The Euro finished the week modestly higher against the recently-downtrodden US Dollar, rising relatively steadily amidst broad similarly bullish moves in the S&P 500 and other barometers of financial market health. A relatively uneventful European Central Bank interest rate decision arguably boosted financial market sentiment and helped the Euro recover against the safe-haven US Dollar.

ECB Governor Jean Claude Trichet showed little interest in removing massive monetary policy stimulus amidst clear concerns of Euro Zone stability. Instead, the bank committed to further private sector funding programs while showing little appetite for higher interest rates. Officials predictably expressed confidence in Euro Zone unity, and it seems that recent actions to essentially guarantee member states’ fiscal solvency have had their desired effect. Markets seem significantly less concerned with a breakup of the Euro Zone, and the EUR has seen losses slow amidst the general relief in tensions. An ostensibly busy calendar of economic event risk may further clarify key fundamental themes for the Euro in the week ahead, and the pair’s recent resilience suggests it could see further recovery against the US Dollar.

The key theme rolling forward will be whether financial markets believe in the relative stability of the Euro Zone and the viability of the single currency regime. To a large extent, this explains the Euro’s recent sensitivity to moves in the S&P 500 and other key risk barometers. Amidst bullish market sentiment, investors are less likely to scrutinize the balance sheets of individual EMU countries and test the resolve of sovereign debt markets. Recently sharp recoveries in key indices bode well for the EURUSD, and a continuation of said moves could force a larger correction in the context of a much bigger decline.

The coming week’s highlights will include a barrage of Euro Zone Industrial Production, Business Confidence, Employment, and Consumer Price Index reports. Individual Euro Zone economic releases do not typically force major moves in Euro pairs, but markets will likely react to any significant surprises out of the data as a whole. The German ZEW business survey may likewise be of interest; analysts predict that sentiment on the “Current Situation” should have improved through the month of June. Reactions out of European financial markets will likely dictate moves in the highly risk-sensitive Euro/US Dollar currency pair.

Currency traders briefly pushed the Euro below the psychologically significant $1.20 mark through last week’s trade. Yet the currency’s relative resilience suggests traders are not yet willing to force further losses amidst a very large overall decline. Traders should likely remain on the lookout for further EURUSD corrections and consolidations in the week ahead; a break of short-term trend channel resistance suggests that further gains are relatively likely.

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