EUR/USD licks wounds, consolidates around 1.1475 after crashing below 1.1500 on Wednesday

• EUR/USD is consolidating around 1.1475 after hot US CPI sent it crashing under 1.1500 on Wednesday.
• USD STIR markets have seen hawkish re-pricing as traders bet on more rate hikes in 2022 from the Fed.

Ahead of the start of what is expected to be a very quiet US session, given that markets there are partially closed in observance of Veteran’s Day, EUR/USD is consolidating around the neutral mark on the day around 1.1475. The pair crashed to fresh year-to-date lows under the 1.1500 level on Wednesday in wake of a much hotter than expected US Consumer Price Inflation report that sent US bond yields and inflation expectations surging and forced USD short-term interest rate (STIR) markets to up their hawkish bets. In doing so, EUR/USD broke below a key level of support in the form of the March 2020 high at just under 1.1495.

Wednesday’s 1.0% decline was actually the second time the pair had dropped by that much in the last two weeks (EUR/USD also saw a 1.0% drop on 29 October). Nonetheless, that made it the joint largest drop since June. To the downside, the next key area of support is the 10 June 2020 high at around 1.1420.

Markets bet on Fed rate hikes

Wednesday’s inflation data triggered a significant hawkish repricing in USD STIR markets. The December 2022 eurodollar future (a proxy for where markets expect the Federal Funds rate to be next December) dropped to fresh lows for the year at one point on Thursday morning of under 99.05 (implying a Federal Funds rate at 0.95% by the year’s end), down from above 99.20 at the start of the week. Euro STIR markets have also seen a modest hawkish repricing, but nothing as large as in US markets. December 2022 Euribor futures (a proxy for where markets expect the ECB’s deposit rate to be next December) has dropped to around 100.25 from under 100.35 earlier in the week.

EZ/US rate differentials have thus moved substantially in the dollar’s favour since the inflation report, as also seen by a 5bps widening of the US/Germany 2-year yield differentials during Wednesday’s session. Hence, it is no surprise to see the dollar support right now.

CIBC, who think the ECB are likely to leave interest rates on hold well into 2023, comments that this “policy gap (between the ECB and Fed) underscores why we continue to favour EUR underperformance versus the USD, and look for EUR/USD retreating towards 1.10 in 2022”.