Market Analysis: Euro Strengthens on Hawkish ECB Rate Cut, Markets Await US Non-Farm Payrolls
Friday, 07 June, Week 23: This report provides a comprehensive analysis of the DXY and major currency pairs, examining their recent performance and potential future direction based on fundamental factors. Each section includes a detailed review of the previous five weeks' performance, a justified forecast for the next five days, and a synopsis of upcoming risk events. The report also delves into key geopolitical and market themes influencing financial markets, concluding with a summary of findings relevant to forex traders.
DXY
The US Dollar Index (DXY) has experienced a notable decline over the past five weeks, falling from a high of 106.33 on 16 April to 104.10 today. This downward trend reflects a shift in market sentiment towards the US dollar, driven by increasing expectations of Fed rate cuts later this year. The weaker-than-expected US ADP employment data for May further fuelled these expectations, pushing the DXY to a one-month low.
Over the next five days, the DXY is expected to remain under pressure, with the upcoming US Non-Farm Payrolls report likely to be a key catalyst. A weak report could solidify the dovish outlook for the Fed and push the DXY lower. This contrasts with Trading Economics' forecast for the DXY to trade at 104.80 by the end of the quarter.
Upcoming Risk Events:
07 June (Friday): US Non-Farm Payrolls
EUR/USD
The EUR/USD has rallied significantly over the past five weeks, reaching a 2-1/2-month high of 1.087 today. This upward momentum is driven by a combination of Euro strength and USD weakness. The ECB's hawkish tone, despite delivering a 25bps rate cut, and its upward revision of inflation forecasts have boosted the Euro. Conversely, the increasing bets for Fed rate cuts have weighed on the USD.
Over the next five days, the EUR/USD is expected to remain supported, with the ECB's hawkish stance and the prospect of further softening in US economic data likely to keep the pair bid. This aligns with Trading Economics' forecast for the pair to trade at 1.08 by the end of the quarter. However, the upcoming US Non-Farm Payrolls report could introduce volatility.
Upcoming Risk Events:
07 June (Friday): US Non-Farm Payrolls
GBP/USD
The GBP/USD has strengthened over the past five weeks, reaching a 3-month high of 1.279 today. This is driven by a combination of USD weakness and pound strength, fuelled by expectations of a BoE rate hike in June. The UK economy has shown signs of resilience, exiting recession in Q1 2024, and inflation has eased more than anticipated.
Over the next five days, the GBP/USD is expected to be volatile, with the upcoming UK general election and uncertainty surrounding BoE rate cuts likely to introduce uncertainty. This contrasts with Trading Economics' forecast for the pair to trade at 1.27 by the end of the quarter.
Upcoming Risk Events:
07 June (Friday): US Non-Farm Payrolls
USD/JPY
The USD/JPY has weakened over the past five weeks, with the yen initially benefiting from safe-haven demand amid global uncertainties. However, the yen's rally has stalled as uncertainties ease and the BOJ signals potential policy adjustments. The pair currently trades at 155.936.
Over the next five days, the USD/JPY is expected to remain under pressure, with the prospect of two Fed rate cuts this year and the BOJ potentially reducing bond purchases likely to weigh on the yen. This contrasts with Trading Economics' forecast for the pair to trade at 158.00 by the end of the quarter.
Upcoming Risk Events:
07 June (Friday): US Non-Farm Payrolls, Japanese All Household Spending
USD/CAD
The USD/CAD has strengthened over the past five weeks, reaching a one-month high of 1.3615 today. This is driven by the Bank of Canada initiating its easing cycle and signalling further cuts, while the Fed maintains a more hawkish outlook. The divergence in monetary policy between the two central banks is the primary driver of this trend.
Over the next five days, the USD/CAD is expected to continue its upward trend, with the divergence in monetary policy between the BoC and the Fed likely to keep the pair supported. This aligns with Trading Economics' forecast for the pair to trade at 1.37 by the end of the quarter.
Upcoming Risk Events:
07 June (Friday): US Non-Farm Payrolls, Canadian Manufacturing Sales
Geopolitics and Market Themes
Israel-Hamas War and Regional Tensions
Synopsis: The ongoing war between Israel and Hamas has entered its fourth week, with Israel continuing its military offensive in Gaza. Regional tensions remain high, with the potential for the conflict to escalate further.
Key Developments:
Israel has reoccupied the southern Gazan city of Rafah, encountering heavy resistance from Hamas.
The United States is attempting to broker a ceasefire agreement, but negotiations have stalled.
Regional actors, including Iran and Hezbollah, have condemned Israel's actions and threatened retaliation.
Assessment: The conflict has contributed to risk aversion in global markets, supporting safe-haven assets like the US dollar. Uncertainty surrounding the conflict's duration and potential for wider regional involvement could continue to weigh on risk sentiment. Forex traders should monitor developments closely, as any escalation could trigger sharp moves in currency markets. Continued conflict could lead to further strengthening of the US dollar.
Quote: "Israeli officials told me the Israeli hostage deal proposal President Biden presented in his speech exhausted Israel's manoeuvring space. There will not be a better one. If Hamas rejects it, the conflict will likely escalate." - Barak Ravid, Axios
U.S. Presidential Election
Synopsis: The 2024 US presidential election campaign is intensifying, with former President Donald Trump facing multiple criminal trials. The outcome of the election could have significant implications for US domestic and foreign policy, including trade relations and geopolitical alliances.
Key Developments:
Trump's first criminal trial began in April, with a verdict expected soon.
The Republican National Convention is scheduled for July 15-18 in Milwaukee, Wisconsin.
The Democratic National Convention is scheduled for August 19-22 in Chicago, Illinois.
Assessment: Uncertainty surrounding the election outcome and potential policy shifts under a new administration could contribute to market volatility, particularly in the US dollar. A second Trump term could lead to renewed trade tensions with China and a more unpredictable foreign policy approach, potentially impacting risk sentiment and currency valuations. Increased uncertainty in the lead-up to the election could lead to volatility in the US dollar, with safe-haven flows potentially supporting the currency.
Quote: "I’m OK with it," Donald Trump said on "Fox & Friends" as he discussed the prospect of prison time for his hush money conviction. He also suggested there could be a "breaking point" if he were to be jailed. ""I’m not sure the public would stand for it,"" - Donald Trump, Former US President
Global Economic Slowdown
Synopsis: Concerns about a global economic slowdown persist, with growth slowing in major economies like the US, Eurozone, and China. High inflation, rising interest rates, and geopolitical uncertainty are weighing on economic activity.
Key Developments:
The US economy expanded by an annualised 1.3% in Q1 2024, below expectations.
The Eurozone economy grew by 0.3% in Q1 2024, recovering from a contraction in the previous two quarters.
China's economic recovery has been slower than anticipated, with weak consumer spending and ongoing property market woes.
Assessment: Fears of a recession are contributing to risk aversion in financial markets, supporting safe-haven assets like the US dollar. Forex traders should closely monitor economic data releases for signs of further slowing, which could lead to increased volatility and shifts in currency valuations. A continued slowdown in global growth could lead to further strengthening of the US dollar.
Quote: ""Slower labor market momentum will continue to limit income growth and push more families to exercise spending restraint amid reduced savings buffers and higher debt burdens,” “Factoring increased price sensitivity, household spending momentum will gradually cool.” - Gregory Daco, EY Chief Economist
Monetary Policy Divergence
Synopsis: Central banks around the world are at different stages in their monetary policy cycles, with some continuing to raise interest rates while others are considering cuts. This divergence in policy is creating volatility in currency markets.
Key Developments:
The Federal Reserve kept interest rates unchanged at 5.25%-5.50% in May.
The ECB cut interest rates by 0.25% on June 6.
The Bank of England kept interest rates at 5.25% in May, but two committee members voted for a cut.
Quote: ""Policymakers acknowledged that while inflation has moderated over the past year, it remains elevated, and there has been a notable lack of further progress towards achieving the central bank's goal in recent months. Still, Chair Powell stated that he does not foresee a hike as likely and believes that the current policy is sufficiently restrictive to achieve the 2% inflation target."" - Federal Reserve, May Meeting Minutes
Conclusion
The forex market is currently navigating a complex landscape characterised by shifting monetary policy expectations, persistent inflation concerns, and geopolitical risks. The US dollar's near-term direction hinges on the upcoming US Non-Farm Payrolls report, which could either solidify the dovish outlook for the Fed or challenge the narrative of a softening labour market. The Euro is benefiting from the ECB's hawkish stance, while the Canadian dollar is facing pressure from the BoC's easing cycle. The Japanese yen remains susceptible to the BOJ's potential policy adjustments and the strengthening US dollar.
For forex traders, the current environment demands a vigilant approach, closely monitoring economic data releases, central bank communications, and geopolitical developments. The potential for volatility remains high, and understanding the interplay of these factors is crucial for identifying profitable trading opportunities.
References
U.S. Bureau of Labor Statistics: https://www.bls.gov/
U.S. Bureau of Economic Analysis: https://www.bea.gov/
Federal Reserve: https://www.federalreserve.gov/
EUROSTAT: https://ec.europa.eu/eurostat/
European Central Bank: https://www.ecb.europa.eu/
Office for National Statistics: https://www.ons.gov.uk/
Bank of England: https://www.bankofengland.co.uk/
Bank of Japan: https://www.boj.or.jp/en/
Bank of Canada: https://www.bankofcanada.ca/
Statistics Canada: https://www150.statcan.gc.ca/n1/en/home
Trading Economics: https://tradingeconomics.com/
Axios: https://www.axios.com/