Stronger Stimulus Measures Weaker Euro

Forex traders take note. The European Central Bank has speeded up debt purchases in their quantitative easing program. As the result the Euro tumbles again. Reuters reports the story.

Equities around the world jumped on Tuesday and the euro tumbled on signals the European Central Bank may accelerate its 1 trillion euro bond-buying program over the next two months.

The dollar gained 1.6 percent against the euro and was broadly ahead for a second day, while U.S. Treasuries fell on government data showing that U.S. housing starts in April rose to a nearly 7-1/2 year peak.

The fact of the matter is that the European Union needs to break out of its fixation on austerity measures, inject currency into the economy, let interest rates fall and stimulate a lagging economy. While the USA led by former US Federal Reserve chairman Bernanke instituted a quantitative easing program to the tune of $85 billion a month in the USA the EU tightened its collective belt. The results were a recovering US economy and a European economy at risk for falling back into recession. The European Central Bank is finally following the US example which is serving to drive the Euro down in relation to all currencies and send the USD and EUR to parity.

Front Loading?

Not only is the European Central Bank going to continue its quantitative easing program but is apparently going to charge hard at the beginning. The Wall Street Journal reports on how the ECB is going to front-load its stimulus program.

The euro fell hard against the U.S. dollar Tuesday, while European stocks and bonds surged on the prospect of the European Central Bank ramping up its asset-purchase program in May and June.

“Even though this is just front-loading, it is effectively an increase in the size of quantitative easing, even if just for a short period of time,” said Simon Derrick, a currency strategist at BNY Mellon.

“It shows that within the existing framework, the ECB is willing and able to be incredibly flexible,” Mr. Derrick said.

Traders will take note that this front-loading of the stimulus program may well drag the Euro down over the next month or so and allow it to recover along with weakened stimulus measures later on. This may provide opportunities for USD EUR traders in both up and down directions.

The Technical Angle

Fundamental traders look to see what the central bankers will do. Technical traders watch the market for cues. CNBC wonders if the current price pattern signals a change or a breakout of the Euro to the upside.

The fast and decisive breakout above the historical resistance level near 1.10 has encountered short term resistance near 1.14. This has the potential to develop a inverted head and shoulder trend reversal pattern. The pattern is completed with a small retreat from short term resistance near 1.14 followed by a rally that moves above 1.14 and tests resistance near 1.16. In this case it’s the confirmation of the inverted head and shoulder pattern that is more significant than the historical resistance near 1.16.

Confirmation of an inverted head and shoulder pattern sets an upside breakout target near 1.22. This is well above the value of the downtrend line. This confirms a new uptrend rather than just a rally and retreat pattern.

Head and shoulders patterns are classic indications of market reversal. The market tests the top in a head and shoulders pattern and retreats, tests again and retreats only test one more time before falling. The inverted pattern is a signal that a falling market will rise. As strong stimulus measures weaken the Euro it will come to a low and eventually recover. The fundamentals are that the European economy will get better and allow the central bank to back off. But the market often sees the future with patterns like the head and shoulders.