Diverging economic growth and contrasting monetary policy paths remain the dominant drivers in the Forex market. EUR/USD bears are exploiting these factors. At the same time, weakness in the S&P 500 is reinforcing demand for the US dollar. Let’s analyze the situation and develop a trading plan.
The article covers the following subjects:
Major Takeaways
- The ECB is tempering expectations of further monetary tightening.
- Divergence in PMI trends is weighing on the euro.
- The US administration has confidence in Kevin Warsh.
- The EUR/USD pair may reach the bottom near 1.135.
Weekly Fundamental Forecast for Dollar
The EUR/USD pair has come under heavy pressure following the Fed’s hawkish turn. Falling oil prices, once a source of support for the euro, have now become a headwind. At the same time, the widening growth gap between the US and the eurozone, coupled with the sharp decline in US equity indices, has dealt another blow to the major currency pair. As a result, EUR/USD quotes have fallen to their yearly low. The risks of a reversal signal a continuation of the downward trend, and JP Morgan asserts that a drop below 1.1400 paves the way to 1.1000.
EUR/USD Risk Reversals
Source: Bloomberg.
Brent crude plummeted to pre-war levels much faster than expected. Against this backdrop, Christine Lagarde said that there was no need to react more forcefully to the fallout from the Middle East conflict. This means that the futures market should temper its expectations regarding the continuation of the monetary tightening cycle. Investors had expected another deposit rate hike in 2026, but the central bank head’s words tempered their expectations. For the EUR/USD pair, this served as a catalyst for the collapse, given that Governing Council officials had previously adopted hawkish rhetoric.
However, the ECB has good reason to abandon this stance. Purchasing Managers’ Indexes in Germany and the eurozone have remained below the critical 50 mark for the third consecutive month, signaling a potential contraction in GDP. In contrast, the US manufacturing sector is growing at its fastest pace since July 2021, and the services PMI has reached a four-month high.
US PMIs
Source: Bloomberg.
The divergence in economic growth is becoming increasingly apparent, as is the gap in monetary policy expectations, with markets now pricing in two Fed rate hikes in 2026. These are among the most powerful drivers of Forex price action, making the EUR/USD’s decline appear fundamentally justified. The move has been reinforced by the pullback in the S&P 500, which is prompting foreign investors to reduce their currency hedges on US assets, thereby boosting demand for the US dollar and lifting the USD index.
The key question now is how the Fed will respond. Neither a stock market sell-off, a stronger dollar, nor rising Treasury yields were part of the US administration’s preferred scenario. So far, Donald Trump has remained silent, while Treasury Secretary Scott Bessent has voiced confidence in Kevin Warsh, arguing that he can strike an appropriate balance between controlling inflation and supporting economic growth.
According to Bloomberg, the new Fed chair may need to demonstrate his hawkish stance by raising interest rates as early as July. Otherwise, one of the key catalysts behind the USD index rally could quickly lose momentum.
Weekly Trading Plan for EUR/USD
The divergence in economic activity and the ECB’s reluctance to maintain a hawkish bias, as expected, pushed the EUR/USD pair toward 1.135. However, the euro may find support near these levels, so for now it is better to refrain from entering the market and monitor the situation.
This forecast is based on the analysis of fundamental factors, including official statements from financial institutions and regulators, various geopolitical and economic developments, and statistical data. Historical market data are also considered.
Price chart of EURUSD in real time mode
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