US Inflation comes in under market expectations; markets breathe a sigh of relief; USD nosedives.

Markets across the world breathed a sigh of relief yesterday (Wednesday, 12^th July) as US inflation figures came under expectations. Headline inflation came in at 3%, vs market expectations of 3.1%. A much thornier issue for the Federal Reserve has been core inflation, which also beat expectations at 4.8% vs the 5% expected.

It’s almost certain that the Fed will raise interest rates again this month, with an 88% probability of a 25 bps rise, but the much-discussed second 2023 rate hike is now looking much less likely. More importantly, it appears that the Fed’s unprecedented cycle of rate hikes may be coming to a close without triggering a recession.

Markets were quick to react to the positive news, with the USD, as represented by the DXY index, plunging and stock markets on both sides of the Atlantic posting big gains. The DXY Dollar Index finished the day down -1.08%, its largest fall since January. The Dow jumped over 200 points before correcting later in the day.

With the EU under pressure to continue raising rates and the US looking ever more likely to avoid a recession, the current pattern is set to continue. We expect an upside bias on stocks and a firm pressure on the USD, with the EUR and other major currencies likely to gain over the medium term.

While this may be the first hint of good news for broader US economic health, we also expect market volatility to continue. Central banks are still very much in a reactive mode, and any sense that inflation remains sticky will strengthen the USD once more. Recessionary fears are not off the table either, and any data reflecting a more widespread slowdown in activity and employment will have an exaggerated effect on markets.

EUR/USD Technical Analysis

Following the CPI print yesterday, the EUR/USD advanced past the psychological resistance level of 1.1100, to a daily high of 1.1150, and is on track to close its sixth consecutive day of gains. This is the highest the EUR/USD has been this year, as well as the strongest exchange rate it has achieved since March 2022.  Technical indicators confirm this upward movement, with the 50 EMA (blue) on a bullish slope above the 100 SMA (purple) and 200 SMA (pink), and below current levels. Furthermore, the 50 EMA provides dynamic support around the 1.1130 level.

EUR/USD from XTB, prepared by Alison Heyerdahl

At over 70, the RSI appears to be in overbought territory, but there is no sign that the upward momentum will slow down in the short-term. Further positive moves would mean the EUR/USD will be facing the highs seen in February 2022 at an exchange rate of 1.453, while a bearish turn may find support at the nearterm rising trendline (yellow). The sell-off of the USD has been triggered by the lower-than-expected inflation in June, causing a boost in the currency pair.