New warnings of euro crisis! What's the trade?

May 14, 2020 11:48

The euro has weathered a raft of different storms in recent years - bailouts, the migration crisis, Brexit and rise of populism. However, according to former European Commission president Jacques Delors, who helped build the European Union, the lack of solidarity between nations on how to deal with the impact of the coronavirus poses a 'mortal danger to the European Union'.

European heads of governments have refused to coordinate their fiscal policies taking the unprecedented decision to suspend the Stability and Growth Pact obligation which states that countries must make structural changes to meet their fiscal targets. Many analysts are now sounding the alarm bells for another eurozone crisis. Read on to learn more and the possible trading opportunities around it.

A political or monetary failing?

In the last crisis, the solutions were relatively easy to find. The European Central Bank would step in and support the financial and banking system with very cheap credit. This helped to oil the wheels and get the economy running again.

The impact and solutions to deal with Covid-19 are much more uncertain. Brussels has already warned that any economic recovery will be uneven across Europe posing a significant threat to the single market and the eurozone. The European Commission further highlighted the dangers facing the region commenting that the situation is "an economic shock without precedent since the Great Depression".

To make matters worse a German Constitutional Court issued a decision that shocked not only financial markets but also policymakers. On 5 May, Germany's highest court said the ECB's actions were illegal under German law. According to the court, the ECB's quantitative easing program did not "respect the principle of proportionality" and that the German central bank and government should have challenged them.

The ECB quickly reacted by arguing it follows decisions taken by the European Court of Justice rather than national courts. The rift is now causing legal and political issues in a time where countries need to work together. The ruling has caused divisions between member states and European institutions and is now weighing on the euro currency.

How to trade EUR/USD

Below is the long-term, monthly price chart of the euro against the US dollar (EURUSD):

Source: Admiral Markets MetaTrader 5, EURUSD, Monthly - Data range: from 1 January 2009 to 14 May 2020, accessed on 14 May 2020 at 10:30 am BST. Please note: Past performance is not a reliable indicator of future results.

It's clear to see the long-term weakness in the euro relative to the US dollar. What is most interesting to many traders is that it seems the currency pair is falling back to a significant long-term horizontal support level at 1.05196. With sellers seemingly in control of the market, there is a high probability chance EURUSD will reach that level at some point in the future.

The division between member states and European institutions has helped to put further pressure on the currency pair. Fundamentally, the outlook remains bleak as the recovery from the impact of Covid-19 has yet to get underway. While the downside pressure can be be seen on the monthly price chart of EURUSD, the shorter-term picture is unclear and traders and investors decide to stay out of the market.

Source: Admiral Markets, MetaTrader 5, EURUSD, Monthly - Data range: from 4 November 2019 to 14 May 2020, accessed on 14 May 2020 at 11:00 am BST. Please note: Past performance is not a reliable indicator of future results.

The above daily price chart of EURUSD shows a market which is struggling for direction. The two support and resistance lines that are drawn on in blue highlight a descending triangle chart pattern. The unprecedented market volatility seen in 2020 has caused some traders to remain on the sidelines. However, many traders will be looking for price to break outside of the chart pattern and most likely to the downside which is in line with the larger, monthly price trend.

If a trend develops in the same direction across multiple timeframes it may represent the beginning of a longer-trend developing. Of course, there is always the possibility of a new 'fundamental' news trigger or development that could cause some traders to buy the euro and sell the US dollar.

With US Federal Reserve Chairman Jerome Powell ruling out 'negative interest rates' in a speech on 13 May, traders may decide to stick with the dollar. This decision was met with instant backlash from US President Donald Trump and even investment bank Goldman Sachs believes the Fed may be forced into the situation if a second wave of coronavirus causes another setback in the US economy. For now, the outlook still remains bleak for EURUSD, how will you be trading it?

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