The EUR/USD pair is navigating a complex landscape, recently showing resilience after dipping below the 1.05 mark earlier this week. This followed a period of optimism fueled by hopes of a resolution to the Ukraine conflict, which had previously bolstered the euro. While the pair hasn’t surged dramatically, the lack of sustained upward momentum may be testing the patience of bullish traders. Nevertheless, in the short term, the downside for the EUR/USD appears limited as diplomatic efforts regarding Ukraine continue. A potential peace agreement between Russia and Ukraine could trigger another correction for the dollar, further supporting the euro. However, the market currently lacks strong bearish catalysts for the US dollar, allowing it to regain some ground alongside rising bond yields. Despite this, the near-term outlook for EUR/USD has brightened, and there’s a growing sense that the pair is poised to move beyond the 1.05 level in the near future.
Contributing to this improved outlook is the latest data from Germany, specifically the ZEW Economic Sentiment index. This key indicator for the Eurozone’s largest economy significantly exceeded expectations in its recent release. The German ZEW Economic Sentiment surged to 26.0, dramatically surpassing the previous reading of 10.3 and the forecast of 19.9. This data point, derived from a survey of approximately 160 German institutional investors and analysts, reflects their outlook on the German economy over the next six months. As a forward-looking indicator, it’s closely watched as investor and analyst sentiment can often foreshadow future economic trends. The magnitude of this increase is particularly noteworthy, representing the most significant jump in the ZEW indicator for Germany in the past two years.
This surge in optimism likely reflects several factors. The strong performance of the German DAX index and broader European stock markets has undoubtedly played a role, buoyed by the anticipation of a potential de-escalation in the Ukraine conflict and expectations that the European Central Bank (ECB) may adjust its monetary policy in response to economic conditions.
According to ZEW President Achim Wambach, several factors underpin this improved sentiment: “This rising optimism is probably due to hopes for a new German government capable of action. Also, after a period of absent demand, private consumption can be expected to gain momentum in the next six months. And the recent move by the ECB to cut interest rates in response to sluggish economic activity in the Monetary Union is likely to have contributed to the better outlook for the construction industry.” These comments highlight a confluence of factors, from political optimism to anticipated increases in consumer spending and the ECB’s accommodative monetary policy, all contributing to a more positive economic outlook for Germany and, by extension, the euro.
However, potential headwinds remain on the horizon. While the immediate focus is on geopolitical developments in Eastern Europe, the issue of tariffs could re-emerge as a significant factor influencing the EUR/USD exchange rate in the coming weeks. Currently, the currency pair is benefiting from a reduction in the risk premium associated with the Ukraine war, with peace negotiations seemingly offsetting concerns about potential trade tariffs in the foreign exchange markets. However, the longer-term implications of tariffs, particularly for the ECB, the Eurozone economy, and consequently the euro, are likely to be more substantial. For now, market attention is largely directed elsewhere, and the prevailing risk-on sentiment is helping to limit downside pressure on the euro.
Meanwhile, the US dollar is currently in a phase of consolidation. The US Dollar Index is experiencing a modest rebound after a two-week decline and a flat performance in January, which brought an end to a three-month period of gains. It remains uncertain whether this recent pullback in the dollar was merely a correction and if this phase has largely run its course. The possibility of a risk-on, dollar-off scenario persists should a peace agreement between Russia and Ukraine materialize.
Interestingly, recent hotter-than-expected inflation data in the US failed to provide significant lift to the dollar. This suggests that the market may have already factored in potential upside risks to inflation stemming from protectionist trade policies. The economic calendar for the US is relatively light this week, and it is questionable whether the upcoming FOMC minutes will prove to be a significant market-moving event. Today’s Empire Manufacturing index is also expected to have a minimal impact on market sentiment.
Looking ahead, the global Purchasing Managers’ Index (PMI) data scheduled for release on Friday could play a crucial role in shaping the EUR/USD outlook. Expectations for the European PMIs are for modest improvements. The Services Sector PMI is anticipated to rise slightly to 51.5 from 51.3, while the Manufacturing PMI is projected to edge up to 48.5 from 48.3, remaining below the 50.0 threshold that separates expansion from contraction. The recent surge in major Eurozone indices like the DAX suggests that investors are anticipating a more robust economic recovery than currently reflected in consensus forecasts. The key question is whether the upcoming PMI readings will validate this optimism and deliver even stronger results than economists are predicting.
From a technical perspective, the EUR/USD outlook has shown signs of improvement recently. The pair formed a significant bullish candlestick pattern last week, establishing a support level around 1.0300 earlier in the week. Since then, EUR/USD has been attempting to overcome key resistance in the 1.0480–1.0500 zone, encountering some selling pressure in this area. Despite this, the recent series of higher lows indicates underlying buying interest, although the broader technical picture has not yet definitively turned bullish. Further bullish price action would strengthen confidence in the potential for higher levels. A decisive break above the 1.0480–1.0500 range could signal a shift in market sentiment, potentially triggering further technical buying towards subsequent resistance levels at 1.0600 and possibly even 1.0700. Traders should closely monitor these key levels for potential trading opportunities in the EUR/USD pair.
— Written by Fawad Razaqzada, Market Analyst
Follow Fawad on Twitter @Trader_F_R
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