At the start of the new trading week, the EUR/USD pair demonstrates low volatility, trading in a narrow price range. The price is balancing on the border of 6 and 7 figures, reflecting the indecision of both buyers and sellers. Today's economic calendar is almost empty. European session was marked with minor releases (Bundesbank monthly report and Eurozone Consumer Confidence Index), while American trading floors are closed today as the U.S. celebrates a national holiday—Presidents' Day.
Moreover, the market is frozen in anticipation of high-profile political events on Tuesday: U.S. President Joe Biden is expected to give a speech, while Russian President Vladimir Putin will address the Federal Assembly. Their respective messages may increase or decrease the level of anti-risk sentiment in the markets (which will definitely have an effect on the U.S. currency). But if the overall geopolitical situation does not change dramatically after the speeches, the focus of the market will shift back to "classic" fundamental factors.
Rising hawkish expectations
Following the results of the last two weeks, a general opinion has crystallized that the Fed will raise the rate in a 25-point step over the next few months—at least at the next two meetings. More aggressive scenarios are also possible. For example, prior to the publication of the latest U.S. inflation report, the probability of a 25-point rate hike in March was 95% (according to the CME FedWatch Tool). Now, the chances of implementing this scenario are estimated at 80%, while the probability of a 50-point increase (up to 5.25%) is already 20%. If we talk about the May meeting, market participants estimate the probability of a rate increase to 5.25% (assuming a March increase of 25 points) at 74%, up to 5.5% – at 16%. Well, according to the results of the June meeting, the rate is expected to increase to 5.5% (assuming a measured pace at previous meetings) – the probability of this scenario is already estimated at 55%. At the same time, traders do not exclude the possibility that the rate will be at the level of 5.75% in June.
As you can see, the market revised its forecasts, strengthening hawkish expectations. In my opinion, this revaluation looks absolutely justified, given the latest macroeconomic reports and comments from the Fed.
The flywheel of hawkish expectations began to unwind the week before last, when nonfarm payrolls report was published. The half-million increase in the number of employed in January and the decline in unemployment to 3.5% surprised investors. Inflation reports published last week completed the puzzle, forming a new fundamental picture. Recall that the January consumer price index and the producer price index came out in the "green zone." The pace of inflation slowed down, and this fact became an alarming signal for the Fed. Back in early February, Powell, speaking at the Economic Club of Washington, said that it could take a long time for consumer price growth to slow down—according to him, inflation in the United States could slow down to the target level only in 2024. He also made it clear that the Fed would continue to raise the rate "which has not yet reached an acceptable level for fighting inflation" (without specifying what level of the rate is "acceptable")
Rate up, EUR/USD down
Powell announced the above theses even before the publication of data on the growth of January inflation. We can assume that now the rhetoric of the head of the Fed will become tougher again – the leitmotif of his speeches will be a message that the American regulator will not curtail the hawkish strategy in the foreseeable future. Actually, many of his colleagues have already conveyed this idea to the public: John Williams, Loretta Mester, Lorie Logan, Michelle Bowman, Patrick Harker, Lisa Cook. All of them, in one form or another, stated that the Federal Reserve is ready for a longer fight against high inflation, taking into account recent trends. In practical terms, this means that the regulator will revise the level of the final rate upward—presumably up to 5.5%. The corresponding messages are being heard more often, in particular, the "5.5%" target was voiced by Williams and Harker, who have the right to vote in the Committee. Hence the rise of hawkish expectations—according to many experts, the Fed will maintain a 25-point rate hike, but the "length of the distance" has not been determined yet. However, now we can say with confidence that the central bank will exceed the previously declared final point (5.1%).
Conclusions
There are growing hawkish expectations in the market regarding further actions of the Fed. This fundamental factor will provide background support to the bears of EUR/USD, which are now trying to keep the pair within the 6th figure. Technically, the price is located between the middle and bottom lines of the Bollinger Bands indicator, under the Tenkan-sen and Kijun-sen lines, but above the Kumo cloud. The nearest support level is at 1.0650, which is the upper boundary of the cloud. It is advisable to consider short positions in the pair only after overcoming this price barrier. The main downward target in the medium term is at 1.0590, which is the bottom line of the Bollinger Bands indicator on the same timeframe.
