EUR/USD Takes One-Two Punch from the Fed & the NFPs

Reserved Fed

After a massive amount of tightening since the March 2022 lift-off, the Fed has managed to make substantial headway on reducing inflationary pressures. Core PCE fell below 3% y/y in December, for the first time in nearly three years, although the all-inclusive measure steadied at 2.6% y/y.

Given this progress and the lagging nature of the transmission mechanism, policymakers are looking to normalize policy. They took another step towards that direction on Wednesday, as the revised statement pointed to the end of tightening. Chair Powell accentuated this shift in his press conference, saying the policy rate "is likely at its peak", adding that it "will likely be appropriate" to start lowering it "at some point" this year. ^[1]

On the other hand, inflation is still above the 2% target and officials want "greater confidence" that it is moving "sustainably" towards this goal, before taking action on rates. Chair Powell hammered the cautious message home and poured cold water on market hopes for a March cut adding that "I don't think it's likely that the committee will reach a level of confidence" for a move in that timeframe.

Speaking on CBS's 60 Minutes in a post-decision interview that aired on Sunday, he largely reiterated this reserved approach, adding that officials "can approach the question of when to begin to reduce interest rates carefully". He also stood by the December projection for a median rate of 4.6% by the end of the year (form current 5.5%) that implies three cuts, not seeing any events to make him believe that officials would dramatically change their forecasts next month. ^[2]

Strong Job Market

The US economy is outperforming, with the 3.3% Q4 preliminary Q4 GDP, beating estimates. The labor market is coming into better balance, but remains tight, as Mr Powell alluded to last week's press conference. Friday's employment report highlighted this tightness, since 353,000 jobs were created in January, marking the biggest addition in a year.

More to it, unemployment steadied at 3.7%, not far from its multi-decade highs, while wage growth accelerated. Average hourly earnings rose 4.5% y/y, the biggest increase in almost a year.

EUR/USD Analysis

With no hard landing in site and a robust labor market, the Fed has no compelling reason to move fast and prefers a cautious stance. Chair Powell dismissed a March cut, dampening aggressive market expectations around the timing and extent of such moves. CME's Fed Watch Tool now assigns the highest probability for this process to begin in May and result in 100-125 basis points of cuts by the end of they year (from 150-125 bps previously. ^[3]

EUR/USD took a one-two punch, from the Fed's reserved approach and the strong labor data, registering its fourth consecutive falling week and a losing month. This has brought 1.0610 in the spotlight, although new catalyst would be needed for a breach.

Despite the careful stance, the Fed has been more equivocal than its European counterpart around prospects of lowering rates and appears closer to a pivot. Although she has hinted to summer cut, ECB President Lagarde has clearly communicated the need for sustained restrictive stance and called any pivot talk "premature". ^[4]

These factors can support EUR/USD and give the opportunity to reclaim the EMA200 (at around 1.0880), but the upside appears unfriendly and we are cautious for further strength above 1.1017.