EUR/USD Forecast: Weakness expected to accelerate below 1.0790

The US Dollar (USD) managed to extend its weekly recovery and maintain the risk complex under heightened pressure on Wednesday, dragging EUR/USD to fresh five-day lows near the 1.0820 region.

The decent bounce in the Dollar coincided with a generally positive performance in US yields across different durations, as investors continued to anticipate the Federal Reserve (Fed) beginning its easing cycle in September, in contrast to the possibility of the European Central Bank (ECB) initiating interest rate cuts potentially as early as June.

Regarding the Fed, the CME Group’s FedWatch Tool suggests a nearly 62% probability of lower interest rates by September.

Meanwhile, two Federal Reserve officials, President of the Boston Federal Reserve Susan Collins and President of the Federal Reserve Bank of Cleveland Loretta Mester, stated on Tuesday night that they still anticipate a continued decline in inflation. However, they believe the process will take time, and central bankers will need to be patient in deciding when it is appropriate to cut interest rates.

Further support for the continuation of the current Fed’s tight stance came after the FOMC Minutes of the May 1 meeting also highlighted a debate about the restrictiveness of current monetary policy in light of the economy's strength. This discussion is crucial, as the policy needs to be "sufficiently" restrictive to curb inflation effectively.

In the meantime, the unchanged monetary policy landscape highlights the firm divergence between the Federal Reserve and other G10 central banks, particularly the European Central Bank (ECB).

Regarding the ECB, President Christine Lagarde expressed strong confidence in controlling Eurozone inflation, attributing this to the gradual resolution of the energy crisis and the easing of supply chain bottlenecks.

Looking forward, the relatively subdued economic fundamentals in the Eurozone, coupled with the resilience of the US economy, support the ongoing narrative of Fed-ECB policy divergence and lean towards a stronger Dollar in the longer run, especially considering the rising probability of the ECB reducing rates well before the Fed.

Given this perspective, the potential for further weakness in EUR/USD should be considered in the medium term.

EUR/USD daily chart

EUR/USD short-term technical outlook

On the upside, EUR/USD is expected to face first resistance at the May top of 1.0894 (May 16), seconded by the March peak of 1.0981 (March 8) and the weekly high of 1.0998 (January 11), all before reaching the key 1.1000 barrier.

In the other direction, a break below the 200-day SMA of 1.0787 could prompt the May low of 1.0649 (May 1) to emerge on the horizon ahead of the 2024 bottom of 1.0601 (April 16) and the November 2023 low of 1.0516 (November 1). Once this zone is cleared, the pair may go for the weekly low of 1.0495 (October 13, 2023), the 2023 bottom of 1.0448 (October 3), and the 1.0400 round milestone.

So far, the 4-hour chart indicates some correction from recent peaks. That said, there is an immediate uphill challenge at 1.0894, followed by 1.0942. Meanwhile, the initial contention is at 1.0821, followed by 1.0766. The relative strength index (RSI) dropped to around 43.