The EUR/USD has retreated from a two-month peak of 1.1762 to around 1.1720. This pullback comes as monetary policy differences between the European Central Bank and the US Federal Reserve influence the currency pair, despite a generally bullish trend.
Monetary Policy Expectations
The Federal Reserve has recently cut rates and indicated an additional cut by 2026. Expectations linger for two more cuts, especially with economic adviser Kevin Hassett potentially replacing Jerome Powell, given Hassett’s support for lower borrowing costs.
German inflation data shows a yearly rise to 2.6% in November, although monthly prices fell. In the US, a rise in unemployment claims indicates potential further rate cuts by the Fed to support the weakening labour market; multiple Fed presidents will provide insights during public comments later today.
The EUR/USD is adjusting down after a recent 1.2% rally, now below 1.1730 support. Key levels are 1.1680 and 1.1615 for support, while resistance is at 1.1762 and potentially 1.1820. Upcoming speeches by Fed officials Anna Paulson, Jeff Schmid, and Austan Goolsbee may offer additional monetary policy clarification.
The main driver for us right now is the growing difference between central bank policies, with the Federal Reserve looking to cut rates while the European Central Bank stands firm. We see the US Dollar’s weakness as a continuing trend, which should support the Euro in the coming weeks. The current dip in EUR/USD below 1.1730 looks more like a pause than a reversal of the uptrend.
US Economic Outlook
Recent data confirms our view that the US economy is slowing down, justifying more rate cuts from the Fed. The jump in initial jobless claims to 236,000 is a significant development, marking the largest increase in over four years and putting it well above the calmer sub-220,000 average we saw through much of 2024. This deterioration in the labor market will likely force the Fed’s hand, especially with markets already pricing in at least two more rate cuts.
Across the Atlantic, the situation is different, as German inflation remains elevated at 2.6%, well above the ECB’s 2% target. This makes it highly unlikely that the ECB will consider cutting its own rates anytime soon, further widening the policy gap with the US. For us, this fundamental divergence is the strongest reason to expect EUR/USD to climb higher over the medium term.
For derivative traders, this environment suggests buying on dips may be the best strategy. The pullback from the 1.1762 high, caused by overbought technical conditions, could be an opportunity to enter bullish positions. We would look at buying call options with strike prices near 1.1800, or for those with a slightly less aggressive view, selling put options at support levels like 1.1680 to collect premium.
Today’s speeches from several Fed officials will be the next major catalyst and could increase short-term volatility. If policymakers like Goolsbee and Schmid sound more concerned about the weakening labor data, it would validate our view and likely send the EUR/USD higher. We will be listening closely for any dovish language that confirms the market’s expectation for a more aggressive easing cycle from the Fed.
