EUR/USD at Multi-Decade Lows Amid Broad USD Momentum, Sterling Crisis Weighs

EUR/USD OUTLOOK:

• EUR/USD begins the week on back foot, setting a fresh multi-decade lows
• The U.S. dollar maintains momentum as U.S. Treasury yields accelerate their advance
• The UK currency crisis, along with negative market sentiment, is not helping riskier currencies

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EUR/USD was sharply weaker on Monday afternoon, down about 0.8% to 0.9608 amid broad-based U.S. dollar strength, but it was trading well above its worst levels set in the overnight session when it reached ~0.9550, the lowest mark since June 2002. Although the market now expects the ECB to raise interest rates by 75 basis points at the October policy meeting, sentiment towards the euro remains overwhelmingly bearish amid growing fears that the eurozone economy may be headed for a recession.

Pessimism about the broader outlook increased after a far-right coalition, led by Giorgia Meloni's Fratelli d’Italia, secured a strong victory in Italy’s elections on Sunday. Based on the group’s political views, the next government could soon buck heads with Brussels by challenging the bloc’s fiscal rules, a situation that could raise fragmentation risks over the medium term (the Italian/German 10-year bond spread widened to 250 basis points today, the most since late July).

Disappointing data from Germany, which saw the Ifo business confidence fall to its lowest level since April 2020 this month, reinforced the view that the EU's largest economy is about to roll off the cliff, reinforcing the euro's soft tone.

The UK currency crisis is doing little to improve the mood. GBP/USD plunged nearly 6% overnight, extending last Friday's sell-off following the Prime Minister's decision to launch a large unfunded fiscal stimulus package at a time of runaway inflation and twin deficits. Although sterling has managed to erase most of Monday's losses, the current situation is not conducive to risk-taking, creating a more favorable environment for the U.S. dollar.

Looking ahead, EUR/USD remains biased to the downside, meaning that new multi-decade lows for the exchange rate could be just around the corner, especially if U.S. Treasury yields continue to rise amid hawkish repricing of Fed rate expectations. In addition, if yields accelerate their advance, risk assets could come under heavy selling pressure, driving flight-to-safety flows. This scenario will be negative for the euro, but beneficial for the greenback.

EUR/USD TECHNICAL ANALYSIS

EUR/USD hit a new multi-decade low on Monday at ~0.9550, kissing channel support but failing to breach it, but with sellers firmly entrenched in the driver’s seat, it may just be a matter of time before a breakout. If the bearish scenario plays out, a move towards 0.9370 could be in the cards. On the flip side, if dip-buyers return and spark a bullish reversal, initial resistance comes in at 0.9700, followed by 0.9900 on the daily chart.

EUR/USD TECHNICAL CHART

EUR/USD Chart Prepared Using TradingView

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---Written by Diego Colman, Market Strategist for DailyFX