ECB cuts rates by 25bps, risks to EU growth remain “tilted to the downside”

In a widely expected move, the ECB cut interest rates in the eurozone by 0.25% today. In her press conference after the decision was announced, ECB President Christine Lagarde, sounded confident that the “disinflation process is well on track.” She also noted that “most measures of underlying inflation suggest that it will settle at around 2% target on a sustained basis.”

The EUR/USD was unmoved by the rate cut or Lagarde’s ensuing press conference, dropping slightly to settle just under the 1.05 handle.

The EUR/USD has borne the brunt of the dollar´s strength over the last month, with repeated attempts to break through the 1.06 handle rebuffed. It even fell below 1.034 on November 22 in response to a surprise contraction of business activity.

Since then, the economic and political news coming from the eurozone has been relentlessly poor. The French government has imploded, briefly pushing French borrowing costs higher than Greece’s, and the recession in the European manufacturing sector has deepened. The HCOB Eurozone Manufacturing PMI, a gauge of the overall health of eurozone factories compiled by S&P Global, declined in November to 45.2 from 46.0 in October.

“These numbers look terrible,” Cyrus de la Rubia, chief economist at Hamburg Commercial Bank, said in a statement following the HCOB release. “It’s like the eurozone’s manufacturing recession is never going to end.”

The ECB’s priority is clear: Provide whatever boost they can to the flagging EU economy. Even with inflation not fully tamed, the case for the cut today is ironclad, and deeper cuts could be coming sooner rather than later.

With inflation data coming through from the US yesterday as expected markets have fully priced in a 25-basis point cut by the Federal Reserve on 18 December, so any major price movement from the ECB announcement today would have been to the downside. With EU economic data so woeful, some analysts saw an outside chance of the ECB making a 50-bps cut. Indeed, Lagarde did not reject the idea of a 50-bps cut in January when questioned directly in her press conference.

However, the 25-bps cut came in as expected, and the forward guidance was limited. Lagarde stated that “we will remain attentive to inflation, but we believe it is falling sustainably to the 2% target.”

So, while it seems like the only way for the EUR/USD to go from here is further south, Chris Turner, FX analyst at ING, sounded a note of caution for those looking to pick up an easy trade on a further slide in the euro:

“…there is quite a large FX option expiry around 1.0550 today [12^th December] and we cannot rule out EUR/USD having to consolidate around here or trading 1.0550 at the 16CET option expiry today if Christine Lagarde has not sufficiently fed the euro bears.”

After the option expires, though, all bets are off, and we can expect the euro to continue to struggle in the short and medium term.

Technical Analysis

Following the ECB’s decision to cut interest rates by 25 bps earlier today, the EUR/USD posted a weekly low at the 1.0470 level. The chart indicates a clear downtrend starting from October, as shown by the lower highs and lower lows. The three moving averages further confirm this:

• 50 EMA (blue line): Acts as short-term resistance, currently below the 100 EMA and 200 EMA, confirming the bearish trend.
• 100 EMA (purple line): Further supports the bearish structure.
• 200 EMA (red line): Indicates a longer-term bearish sentiment as price remains significantly below this level.

 
If we look at support and resistance, support is experienced around  the 1.0480-1.0460 levels,  where price is currently consolidating. Immediate resistance currently sits at the 50 EMA (~1.0680). Beyond this, further resistance sits near 1.0776 (100 EMA) and 1.0816 (200 EMA).

Looking at the RSI (Relative Strength Index):

• Current RSI: 38.82, indicating bearish momentum, but not oversold yet (below 30 is oversold).
• RSI is showing signs of potential bullish divergence as the price is making lower lows, but RSI is forming higher lows. This could indicate a reversal to the upside if  the RSI breaks above 50.

Overall, the bias is bearish as long as the price remains below the 50 EMA and RSI stays under 50. A break below 1.0460 could see the pair targeting 1.0400 or lower levels. If price breaks above the 50 EMA and RSI confirms, we could see a short-term rally toward the 100 EMA (~1.0776).