17.05.202223:56 Forex Analysis & Reviews: EUR/USD. Temporary retreat of the dollar and hawkish messages of Klaas Knot

The EUR/USD pair demonstrates corrective growth, reacting to the hawkish statements of the European Central Bank representative. Bulls took advantage of the situation, especially against the backdrop of a general weakening of the dollar, which lost ground throughout the market. Looking ahead, it should be noted that the dollar is consolidating after a rapid rise to multi-year highs. That is, it is impossible to talk about a trend reversal. The US dollar index hit an almost 20-year high last week, appearing in the area of the 105th figure. The last time it was at this level was at the end of 2002. Therefore, it is not surprising that after such a large-scale dollar rally, the greenback retreated several steps: the index stood at the 103.40 mark. The temporary weakening of the greenback affected all dollar pairs of the major group, including EUR/USD. Bulls were able to return to the area of the 5th figure, although the low was at 1.0389 on Monday.

Under the circumstances, a corrective price increase looks quite logical and predictable. At the end of last week and at the start of the current five-day period, the EUR/USD bears came close to five-year price lows (1.0340 area) on the wave of the downward trend. In three months, the bears have moved more than 1000 points, breaking such strong support levels as 1.1000 and 1.0650. In the first case, we are talking about a psychologically important target, which opened the door for the bears to the area of 7-8 figures. The mark of 1.0650 is also significant in a sense. This is the price low that was reached in March 2020 during the first wave of the coronavirus crisis. Many experts doubted that in 2022 traders will be able to go below this level, which was too tough for the bears two years ago. But contrary to skeptical forecasts, EUR/USD bears continued their downward path and stopped only in the area of 5-year price lows. If they had overcome the mark of 1.0340 (and settled below it), then in this case one could seriously talk about achieving parity. The pair would trade at 20-year lows.

Obviously, for such a breakthrough, an additional information impulse is needed. Federal Reserve representatives (in particular, John Williams) over the past few days continued to pump traders with hawkish messages, but this was not enough to overcome such an important price barrier as 1.0340. John Williams and Loretta Mester confirmed earlier reports that the Fed is ready to raise interest rates in 50-point increments "in the next few meetings."

Such signals allowed the EUR/USD bears to once again enter the area of the third figure, but did not allow them to test the above support level. In my opinion, in order to implement this scenario, tougher rhetoric from the Fed was needed - for example, in the context of the central bank's readiness to raise the rate by 75-point steps. This option of the development of events is not hypothetically excluded, but so far they are not seriously talking about it. Therefore, it is not surprising that without the appropriate information feed, the downward momentum gradually faded away - traders did not dare to hold short positions for a long time on the threshold of a powerful price line with a long "history". Against the backdrop of a general weakening of the greenback, bulls seized the initiative for the pair, organizing a corrective growth.

This was also facilitated by the chairman of the central bank of the Netherlands Klaas Knot. He said a 50 basis point ECB rate hike "shouldn't be left off the agenda, especially if inflation shows a strong upward momentum over the next few months." He also called "absolutely realistic" the option of a 25-point increase following the results of the July meeting. Let me remind you that, according to analysts at Goldman Sachs, the ECB may raise interest rates by 25 basis points in July, September and December. If we talk about longer-term prospects, here the strategists of the financial conglomerate predict four increases within the next year.

But here it should be noted that the head of the ECB and the chief economist of the central bank have so far taken a rather cautious position on this issue. They do not exclude the option of raising the rate after the completion of the stimulus program (at the end of the third quarter). However, at what pace rates will rise and for how long is an open question. Lagarde and the rest of the most influential members of the ECB prefer not to voice clear and unambiguous forecasts. In addition, the ECB, even against the backdrop of Knot's hawkish statements, looks too "sluggish" and slow compared to the Fed, which, in fact, announced several rounds of 50-point rate hikes. In addition, the single currency is too vulnerable to a reversal of the EUR/USD trend against the backdrop of an impending energy crisis, increased risks of stagflation, sanctions confrontation with Russia, and fruitless Russian-Ukrainian negotiations.

Thus, it is advisable to use the current corrective growth to open short positions, especially if EUR/USD bulls fail to overcome the resistance level of 1.0580 (the middle line of the Bollinger Bands indicator on the daily chart). If the upward momentum begins to fade in this price area, short positions will again be in a trend with targets of 1.0500 (Tenkan-sen line on D1), 1.0450 and 1.0400 in the medium term.