EUR/USD Downside Risk Factors Abundant

As the time for a Greek debt deal ticks down and the US Federal Reserve inches closer to higher interest rates, the risks for the EURUSD pair remain clearly skewed to the bottom despite several measures that could prove optimistic for the pair. Resurgent European growth and the revival of inflation across the Euro Area have been very positive developments for the European Central Bank as it tries to restore upside economic momentum. The tailwinds of the weaker Euro have helped spur the fastest growth in years in certain core sovereign states, but many factors remain outside the control of the Central Bank as it seeks to ensure sustainable growth through zero and negative interest rate policies coupled with asset purchases. The importance of this week’s developments should not be lost on investors as the potential for a major policy shift could signal risks ahead for major currencies.

The Fundamental Take

News out from Greece over the weekend show that the country is softening its negotiating position to a degree, but the main points of contention remain. The sticky issues for the Greeks are increasing the VAT rate and decreasing pension obligations. As a percentage, pension obligations are among the highest Europe when listed as a percentage of GDP. This has caused concern amongst the leadership of Euro Area finance ministers that look upon the situation as untenable.  However, the idea of cutting pension from a Greek leadership perspective is a non-starter like raising the value-added tax. The commonly used phrase "squeezing blood from a stone" would best define the results of adding more taxation to an economy that is already buckling. Thousands of jobs and hundreds of businesses are closing their doors every month in the longsuffering nation as the leadership tries to negotiate an easing of the hardship and ability to implement pro-growth measures.

Citizens across the European Union will be carefully watching how events unfold as the Greeks remain steadfast in their determination to lift the crippling economic measures. Anti-austerity and anti-Euro movements are gaining traction and momentum, meaning any mistakes on the part of European creditors might in fact embolden the opposition to many incumbent governments. At this point however, many sovereigns are preparing for the potential of a Greek default as evidenced by the German’s drawing up plans should the nation fail and Macedonia preventing withdrawals from Greek banking branches in an effort to ring-fence the economy from any unintended consequences of a banking crisis. Capital controls and bail-ins are likely around the corner if politicians fail to close a deal for more aid before the end of the month IMF repayments. 

While Greece remains in the headlines as the gaps between negotiator’s remains wide, across the Atlantic, the United States Federal Reserve is set to determine monetary policy and guide on the future as the Open Market Committee becomes more hawkish in its policy outlook. Although not expected to raise interest rates this week, there is strong potential for a hike of 25 basis points or a smaller increment in September should better economic figures persist in the near-term. Better job creation data, strong retail sales figures, gains in personal income and more optimistic real-estate outlook make the case for raising rates sturdier with each and every passing day. While the Euro could be facing turmoil as a result of Greece, there is potential for the dollar to retest multi-year highs against peers as higher interest-rates beckon further appreciation in the world’s reserve currency.

The Technical Take

Although there is room for a surprise in upcoming fundamental decisions despite the outward downward bias based on the confluence of factors, the technical outlook is a slightly more challenging to read owing to the sensitivity of the EURUSD pair to news flow. On a short-term basis, since touching lows in the middle of March, EURUSD has been trending to the upside in what potentially appears to be an equidistant channel pattern.  However, despite the near-term bounce and trending above the pair’s 50-day moving average, EURUSD remains below the longer-term 200-day moving average which is still trending lower. 

While the pair could be forming a potential head and shoulder’s bullish pattern, setting up since the beginning of the year, this recent move higher could just be a temporary technical bounce from the longer-term downtrend started approximately 1-year ago. If the head and shoulders pattern has a bullish move, the key levels to watch on the upside are 1.1378 and 1.1449. A break above these levels paves the way back towards the critical 1.1800 level. However, should fundamentals disappoint and be the driver in this week’s momentum, if EURUSD should break support at 1.1103, it paves the ways back towards 1.0815 and even potentially a retest of the lows near 1.0450. With major upcoming policy speeches from ECB President Mario Draghi and Federal Reserve President Yellen, there is certainly the factors present for explosive volatility in upcoming trading sessions.

Conclusion

Risks for the EURUSD pair remain acutely to the downside at the moment based solely on the fundamental factors. While technicals give a mixed picture owing to the fact that the EURUSD pair is rebounding after nearly a year of losses, the potential for a technical pullback to the upside is looking somewhat exhausted and the pair continues to trade below a longer-term moving average. The fundamentals will be the key drivers in the coming week owing to very important data like the US interest rate decision, Greek negotiations, Euro Area inflation figures, and finally US housing data.  Should the stars align and the Federal Reserve pave the way to policy normalization, it could be game-over for the recent gains in the EURUSD pair.