The Fed is disappointed by the improvement in financial conditions. Markets are disappointed by Jerome Powell’s hawkish speech. This happens again and again and has an impact on EURUSD. Let’s discuss this topic and make up a trading plan.
Weekly US dollar fundamental forecast
Central banks and markets are in an endless cycle of disappointment. With inflation slowing, the Fed and other regulators are beginning to rub their hands with pleasure, but faith in the end of monetary tightening cycles allows investors to hope for lower rates. Financial conditions are weakening, making it more difficult to combat inflation. As a result, central banks are disappointed and begin to act hawkishly, which in turn disappoints the markets.
Market expectations dynamics for rate cuts
Source: Financial Times.
Jerome Powell’s speech at the IMF conference became part of the drama. After the Fed Chairman’s long speech following the FOMC meeting about progress in the fight against inflation, markets reacted with a rapid rally. Stock indexes rose, while Treasury yields and the US dollar fell. As a result, financial conditions have weakened, which is getting on Fed officials’ nerves. Not surprisingly, in his last speech, Powell recalled the unpleasant surprises of inflation in the past and that the central bank would not hesitate to raise rates if prices repeat their trick.
Investors considered his speech hawkish, which cooled the hotheads of the EURUSD bulls. However, in fact, the most important thing in the speech was the assumptions about how the final stage of the Fed’s fight against inflation might unfold. The central bank needs to rely on a slowing economy, not an improvement in supply. A key element of the disappointment cycle is the deterioration of US macro statistics, which should ultimately return PCE to the 2% target.
In the short term, the EURUSD dynamics will depend on US inflation data for October. According to Bloomberg experts, consumer prices will slow down from 3.7% to 3.3%, the basic indicator will grow by 4.1%, at the same pace as in September.
Dynamics of US inflation and Fed rates
Source: Trading Economics.
At the same time, the derivatives market predicts an increase in the Fed funds rate in January with a 28% probability, although a month ago, it was only 9%. This circumstance supports the US dollar. However, slowing inflation could weaken the greenback.
There are two main theories regarding the future of CPI and PCE. Either prices will fall on their own due to the end of supply chain disruptions and massive fiscal stimulus. Or the 1970s situation will be repeated when inflation reached a new high, although the Fed was confident of victory. It was this unpleasant surprise that Jerome Powell mentioned.
Weekly EURUSD trading plan
The first option is more preferable. However, traders must still be alert, as events can develop unpredictably. Most likely, EURUSD will consolidate before the release of US inflation data for October. However, use the resistance breakout at 1.0725 to add up to long trades entered at 1.0665.
Price chart of EURUSD in real time mode
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