EUR/USD Slows Ahead of Central Bank Meetings

June 12, 2018 — 1:15 PM EDT

Volatility has been declining in EUR/USD over the past four sessions, but a breakout appears imminent as the Federal Reserve and the European Central Bank are scheduled to reveal their latest monetary policy stance this week. U.S. inflation figures fell in line with expectations and did not trigger a notable reaction in the exchange rates on Tuesday, while the U.S.-North Korea Summit saw a generally muted reaction across the markets.

The Bureau of Labor Statistics reported an increase in the U.S. consumer price index of 2.8% in the year to May, up from 2.5% at the last reading and slightly ahead of analyst expectations. Core CPI rose 2.2%, in line with expectations. EUR/USD gained about 20 pips on the data release prior to reversing to pare gains.

The exchange rate hit a barrier at the 1.1800 handle on Thursday and has been consolidating below the level for four consecutive days. Price action for the month of June has been contained within a rising channel, which is best seen on an hourly chart. A declining trendline originating from Thursday's high has capped rallies and is converging with the lower line of the rising channel, suggesting an imminent breakout.

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A technical break above the declining trendline would signal a continuation of the bullish trend that has taken place since late May. Horizontal resistance is seen at 1.1812, slightly above the trendline, and a break above the level would provide additional confirmation. Bears, on the other hand, will be looking for a break below the rising channel formation to signal that the downtrend that has been dominant for most of the quarter remains intact.

 

A catalyst for the next move in EUR/USD is likely to originate from one of the two central bank meetings that will take place this week. The Federal Reserve is widely expected to raise rates for a second time this year on Wednesday. Forward guidance will provide a catalyst for the next dollar move, as Fed officials have dropped hints of a change in the rate statement. The central bank has communicated intentions to raise rates three times this year, although some market participants believe that a fourth rate hike should not be ruled out, as economic data have been strong and there is clear evidence of upward inflationary pressures. In the last rate statement, the Fed made a distinct reference to its inflation target being symmetric, signaling that an overshoot in inflation would not necessarily warrant an increase in the pace of normalization.

The European Central Bank meets on Thursday, and similar to the Federal Reserve, market participants will be looking for a monetary policy decision. Specifically, the ECB will need to decide whether to continue its bond purchase program beyond September, and if so, at what pace and for how long. President Mario Draghi has shown some reluctance to end quantitative easing, and it appears unlikely that the program would end abruptly. However, the ECB's Jens Weidmann, a known hawk, has made clear that he expects a move away from loose monetary policy by the end of the year.

There seems to be a divide among futures traders as to where the euro is headed, as a pattern is clear in positioning data. The latest Commitment of Traders report revealed a fifth consecutive draw in net long euro positioning, but once again, there was a build in both long and short positions. The gross long position stands at 240,000 contracts and continues to highlight downside risk for euro bulls. At the same time, the gross short position has jumped higher by 50% since the middle of May, standing at 150,000 contracts, suggesting risk to both sides.

The slowing of volatility in EUR/USD often precedes a breakout. The current positioning and upcoming risk events this week also point to a spike in volatility. Levels to be mindful of this week are 1.1714 to the downside and 1.1875 to the upside. The former was a respected support level in the second half of last year and also acted as notable resistance in the early stages of the current uptrend. As well, the 20-day moving average is found near the level. The latter also had an impact in the third and fourth quarter of 2017, acting as both support and resistance. In addition to being a horizontal level, it falls near the 38.2% Fibonacci retracement measured from the high posted in April.