EUR/USD likely heading to 1.25 despite dollar rebound

The US dollar has started today’s session higher after the reserve currency found decent support Wednesday afternoon as US 10-year bond prices fell and yields rose along with equity prices. US 10-year yields rose above 1% for the first time since March as investor speculated that a Democratic sweep in the Senate could translate to further fiscal support for the economy if needed. As a result, the S&P 500 index hit a new record high and this morning the German DAX followed suit to hit new virgin territories, before pulling back a touch. With the Democrats gaining control of the government, we essentially now have a Washington put as well as the Fed put. Thus, if the economy were to deteriorate further in the coming months, there could be more support from the fiscal side, as well as monetary policy. Therefore, future dips in the stock markets are likely to be bought like before until at least when the Fed signals tightening.  Meanwhile, the dollar has done particularly well against the Japanese yen since Wednesday’s turn around and this morning it was up sharply against the euro as well. The single currency fell after the Eurozone retail sales came in well below expectations at -6.1% month-over-month, while the CPI measure of inflation was also weaker-than-expected at -0.3% y/y.

But is this a game changer, or a mere hiccup in the dollar’s downtrend? Could the EUR/USD bounce back anyway?

Well, with sentiment remaining positive towards risk assets and in particular value stocks, I reckon the weakness for the euro could be short-lived. Granted, there is a risk we may see further short-term weakness, but the underlying trend is bullish. Forward-looking investors are likely to favour European stocks relative to the overvalued US equities, if they continue to believe the world economy will bounce back and things will go back to normal. With EU stocks being relatively undervalued, we could well see further flows into European equities in the coming weeks and months. If so, demand for the single currency should rise correspondingly, thus limiting the downside potential for the EUR/USD.

Indeed, despite the slight weakness today, EUR/USD is stuck inside a rising channel, making higher highs and higher lows. It is slowly but surely closing in on the 1.25 handle and the 2018 high is just a spitting distance away now at 1.2555ish. I reckon it will get there in the coming days or weeks, because of the reasons stated above. But even from a purely technical viewpoint, there is currently very little bearish factors to point to on the chart. Yes, the momentum indicators might be at “overbought” levels and we may well have a bearish-engulfing-like candle on the daily today, but we have seen similar pattens in the past failing to derail the ongoing rally.  So, don’t be surprised if this turns out to be yet another case of a false signal for the sellers.  

Source: ThinkMarkets and TradingView.com