EUR/USD – neutral bias – (1.3500-1.3750).
The euro has strengthened modestly against the US dollar over the past week after EUR/USD failed to break below key support at around the 1.3500-level. The US dollar has weakened following the latest FOMC meeting as it unveiled no material change in policy or outlook. The Fed continued to gradually taper QE and reiterated that the first rate hike will occur a considerable period after the end of QE. The commitment to maintain low rates and loose liquidity has further encouraged investor risk seeking behaviour in the near-term.
Still the decline in US yields and the US dollar is likely to prove short-lived as tightening labour market conditions and higher inflation will help to lift US yields. The market is increasingly underestimating the scale of Fed rate hikes likely in the coming years with the ongoing decline in financial market volatility a further sign of investor complacency.
The release of the PCE deflator in the week ahead should further highlight that inflation pressures are picking up in the US, while the second estimate for US GDP report for Q1 should reveal that the economy contracted more sharply than initially estimated. Downward pressure on euro-zone yields following further ECB easing should help to dampen euro upside in the near-term.