Where is EURUSD Heading for the Month of October?

The euro continued its upward trend through September, bolstered by a notable improvement in financial market conditions across the region. Current market sentiment, as captured by the Overnight Index Swaps (OIS) market, now indicates a shift in expectations for the European Central Bank (ECB). Traders are pricing in two potential 25-basis point rate cuts at the final ECB meetings of 2024, compared to the previously anticipated single reduction slated for December. In response to this change, we have adjusted our own projections to better reflect the evolving market consensus. Yet, the euro’s appreciation remains relatively restrained. This is mainly due to a more favourable global growth environment, which has temporarily offset some of the downside risks that were previously weighing on the currency. We had earlier argued that limited global growth would cap the euro’s gains against the dollar, but recent stimulus initiatives announced by China have buoyed global sentiment, thereby providing some additional support for the euro. However, this boost may prove to be short-lived if China’s policies fail to deliver the anticipated economic acceleration, which could quickly diminish investor confidence and reverse the euro’s recent progress.

Despite the improved global growth outlook, we maintain a cautious stance on the EUR/USD pair, anticipating a limited upside in the short term. There are two primary reasons for this view. First, recent Purchasing Managers’ Index (PMI) data for France and Germany underscore ongoing economic fragility within the eurozone’s core economies. Germany continues to show signs of contraction, and France’s services sector has experienced a marked slowdown, with the services PMI plunging from 55.0 to 48.3, its lowest reading since March—indicating a sharp deceleration in economic activity. Second, inflation in the eurozone is decelerating more rapidly than anticipated. Preliminary Consumer Price Index (CPI) data for early October reveals a drop from 2.2% to 1.8%, marking the first time inflation has fallen below the ECB’s 2.0% target since April 2021. This contrasts starkly with the ECB’s earlier projection of 2.3% year-on-year inflation for the third quarter of 2024, suggesting that the central bank’s inflation expectations have been significantly overshot. Such a scenario raises concerns about the eurozone’s ability to sustain its economic recovery, further complicating the ECB’s policy outlook.

Moreover, political developments in France present additional headwinds for the euro. Since the previous general election, political stalemate has started to weigh on broader market sentiment. This has been reflected in the widening yield spread between French (OAT) and German (Bund) government bonds, which has expanded to approximately 81 basis points. The upcoming budget speech by Prime Minister Barnier, scheduled for 1st October, could exacerbate this trend if his proposals are perceived as unviable in the current political environment. With France’s budget deficit standing at around 6% of GDP—well above the EU’s 3% threshold—the widening OAT/Bund spread has reached its highest level since the eurozone debt crisis in 2012, signalling growing investor concerns about fiscal sustainability.

Taking these economic and political developments into account, we see limited potential for the EUR/USD pair to achieve significant gains in the near term and reaffirm our year-end target of 1.1200. Given the high level of uncertainty surrounding both the ECB’s future policy trajectory and the broader eurozone macroeconomic landscape, alongside persistent fiscal and political risks, a conservative approach to forecasting remains prudent.

ECB Policy Shifts: Market expectations have shifted towards two rate cuts by year-end, indicating a potential recalibration of the ECB’s policy stance. Deteriorating economic data and declining inflation highlight the possibility of more aggressive easing to support the eurozone economy.Global Growth Sentiment: China’s recent stimulus measures have provided a temporary lift to global growth expectations, aiding the euro’s strength. However, if these measures underdeliver, the positive impact on the euro could quickly unravel.Eurozone Economic Data Weakness: Soft PMI readings for France and Germany signal persistent economic challenges, while rapidly falling inflation suggests that the ECB’s current policy approach may need further adjustment to avert prolonged stagnation.Political Uncertainty in France: Political deadlock and growing budgetary concerns in France are reflected in the widening OAT/Bund spread, which could pose further risks to the euro’s outlook if left unaddressed.EUR/USD Outlook: The euro’s recent gains appear fragile, with our year-end target remaining at 1.1200. A complex mix of economic, political, and fiscal uncertainties justifies a cautious stance, as the risk of further downside pressure looms large in the coming months.This content may have been written by a third party. ACY makes no representation or warranty and assumes no liability as to the accuracy or completeness of the information provided, nor any loss arising from any investment based on a recommendation, forecast or other information supplies by any third-party. This content is information only, and does not constitute financial, investment or other advice on which you can rely.