Euro: too early to celebrate. Forecast as of 08.12.2022

Once the markets made a mistake about the deep recession in the eurozone, which allowed EURUSD to break the trend. Maybe they are mistaken about the slowdown in US inflation? Let’s discuss this topic and make up a trading plan.

Weekly Euro fundamental forecast

The war in Ukraine and the related energy crisis scared investors so much that the euro declined below parity against the US dollar due to fears of a deep recession in the eurozone. In fact, it turned out differently. Warm weather, LNG supplies from the US, Qatar and other countries, high storage capacity led to lower gas prices. These factors, together with the slowing down of the Fed monetary restriction rate, reversed the EURUSD downtrend.

The eurozone economy has proved more resilient to the energy crisis. This is confirmed by the increased to +0.3% QoQ growth forecast of eurozone GDP in the third quarter. According to Nomura analysts, EURUSD is trading in a reducing transaction mode. However, there will still be a recession. But there are signs that the downturn will be less deep and prolonged than expected. That inflation will slow down faster. This gives grounds for purchases of both euro and European stocks, which at the end of 2022 outperformed their US counterparts.

In November, capital inflows into ETFs holding shares of eurozone issuers but denominated in other currencies rose to the highest level since the beginning of 2021. This was one of the factors contributing to the EURUSD reversal.

However, the markets are craving for a dovish reversal. The improvements in global risk appetite are based on hopes that the Fed will start cutting rates as early as 2023. These factors contribute to the growth of US stock indices and weaken the USD position. 

In fact, investors make two mistakes. They expect that the stock market recovery will be as fast as in 2020. They are focused on monetary policy and do not take into account fiscal policy. Societe Generale calls it the elephant in the room. If US government spending plans and high inflation remain, the Fed will continue to raise rates. This will be followed by a recession, a new round of monetary and fiscal stimulus, and a new cycle.

According to more than 60% of Financial Times experts, the federal funds rate will rise to at least 5%. 20% of respondents predict 5.5-6%. While only 5% believe that the cost of borrowing will exceed 6%. In September, only one in five economists thought that the rate would rise above 5%. 

The stock index rally has a very weak basis. Investors expect a dovish reversal, but they forget that when the Fed eases monetary policy, the economy is in an extremely weak condition, so stocks cannot grow confidently. 

Weekly EURUSD trading plan

The risks of EURUSD decline remain high. However, in the short term, the pair is trying to reach the borders of consolidation (between 1.044 and 1.055) on the eve of important events of the week ending December 16. Purchases on the decline and sales on the rise remain relevant.

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