Fundamental Forecast for Euro: Bearish

The euro rallied sharply against the dollar after several weeks of sharp declines, bringing a much needed correction amidst seemingly unidirectional moves in currency markets. Though the past two months of sizeable declines still leave medium-term momentum to the downside, such oversold conditions made markets ripe for sharp moves as many took the opportunity to close EUR short positions. A relatively lackluster week of economic event risk ahead provides little in the way of foreseeable volatility. Yet recent events emphasize that markets can switch direction in a near-instant and it may be another exciting week of EUR/USD trade.

Ongoing developments within the Euro Zone and fiscal crises across a handful of member states will likely dominate headlines and price action in the weeks ahead. We saw the EURUSD rally dramatically on rumors that an unnamed US official said the country would be willing to extend further International Monetary Fund aid to EMU nations. Yet the lack of public corroboration left some doubts as to the validity of said claims, and it is clear that significant uncertainty surrounds the monetary union despite formal announcements of an Irish fiscal bailout. Given the speed at which markets have sold bonds from the so-called periphery Euro Zone nations, it feels as if it is only a matter of time before flare-ups in market tensions force further bailouts and further strain the European Monetary Union.

Such developments will likely continue to weigh on the single currency going forward. In the shorter-term, however, it will be more important to watch intraday shifts in the S&P 500 and broader financial market risk sentiment. Said index has neared fresh multi-year highs in recent days of trade and impressive momentum favors further gains. Yet the speed at which equities bounced off of their recent lows is strongly reminiscent of short squeeze rallies—suggesting that recent strength is a function of technical factors and not a change in market sentiment.

A euro failure near important resistance would suggest that the past week of strength is simply a correction within a broader turn lower. Suffice it to say, it may be an important week for the recently-volatile EURUSD pair as traders search for direction.

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