On Tuesday, the EUR/USD rose for the third consecutive day, benefiting from the ongoing weakening of the dollar.
The greenback has been actively strengthening in recent months due to the Federal Reserve's aggressive interest rate hike.
And until recently, traders were wondering how far the US central bank could go in raising the rate.
However, now the market discussion is built around the idea that from December the pace of monetary tightening in the US can be reduced.
It is expected that after the November hike of 75 bps, the central bank will raise the price by 50 bps in December and by 25 bps in February. And by 25 bps in March. As a result, the key rate will peak at 5% in 2023.
"The market is still unsure about when the Fed will admit that what they have done to date will take effect. The central bank takes its mandate to fight inflation seriously, but there is talk of tightening it too much," Keator Group specialists noted.
Minutes from the September FOMC meeting, released Oct. 12, showed that several meeting attendees indicated it would be important to calibrate the pace of further policy tightening to reduce the risk of a negative impact on the economic outlook, especially in the current highly uncertain global economic and financial environment.
On October 14, Kansas City Fed President Esther George said the Fed should raise interest rates more slowly and steadily to give its policy actions time to seep into the economy.
"The full impact on the real economy is probably still ongoing," said George.
She added that while supporting the ongoing rate hike, the central bank's actions must be balanced.
Rates will have to rise higher and stay at their peak longer than previously thought, she said.
"These significant interest rate changes are likely to increase uncertainty about future policy. I think the extent to which we can minimize this political uncertainty is particularly important," said George.
And now Fed officials are wondering when they should slow down the pace of rate hikes as they assess their impact, given that it takes many months for any rate change to take effect.
San Francisco Fed President Mary Daly said last Friday that she thinks the US central bank should start discussing slowing down its rate hike.
The prospect of smaller US rate hikes from December does not add to the optimism of the dollar, as it means that monetary policy will not provide further support to it.
US statistics showed that business activity in the country's private sector continued to decline at an accelerated pace in October.
Composite PMI index fell from 49.5 to 47.3 points against the forecast of 49.3 points.
The data reinforced investors' belief that the Fed will be less aggressive in tightening policy towards the end of the year.
As a result, the dollar lost some points gained during the European session, while the major Wall Street indexes showed strong growth, allowing the EUR/USD pair to benefit from improved market sentiment.
As a result of Monday, the S&P 500 added 1.19%, rising to 3797.34 points.
Meanwhile, EUR/USD performed more modestly, up about 0.13% on the day to finish near 0.9875.
On Tuesday, the pattern repeated itself.
The greenback pulled back on intraday gains after the Conference Board said US consumer confidence fell to 102.5 in October from a revised 107.8 in September. Analysts predicted a decline in the index only to 106.5 points.
Today is a prime example that bad news for the economy is good news for the US stock market.
Wall Street extended gains on Tuesday as another round of weak data raised hopes that the Fed would slow down its aggressive pace of rate hikes.
In addition, third-quarter financial results released this week and last week for a number of US companies showed earnings estimates have been declining in recent months, but at a modest pace.
The S&P 500 could continue its rally towards 4000 or 4150, Morgan Stanley strategists say.
They indicate that the stock market has risen significantly after talk intensified that the Fed is likely to pause in raising interest rates, and this may happen sooner than many expect.
Experts admit that such a change in the monetary rate may occur at the next FOMC meeting on November 1-2.
At the same time, the forecast for the S&P 500 depends on the reporting of income for the fourth quarter, analysts say. They are still waiting for a sharp decline in company earnings estimates in 2023, which will mark the bottom of stock prices, but this has not happened yet.
"We simply don't have confidence that there will be enough capitulation on earnings for 2023 to lower earnings-per-share forecasts in a way that sends stocks to new lows. Our base case would be either in December, when holiday demand falters, or during Q4 reporting season in January and February, when companies will be forced to debate their 2023 forecasts strongly. In the meantime, enjoy the rally and keep a close eye on the S&P 500 200-week moving average to assess whether the rally will fail or continue," Morgan Stanley said.
On Tuesday, the broad market index added about 1.2% to the previous day's gains, while the greenback continued to weaken, which did not fail to take advantage of the EUR/USD pair, which rose to almost three-week highs.
Obviously, the Fed is playing it safe. However, representatives of the central bank pointed out that the suspension of rate hikes is possible only after clear and convincing evidence of a slowdown in inflation, Deutsche Bank economists say.
Strategists polled recently by Reuters believe the central bank should not pause until US inflation falls to about half of current levels.
It currently exceeds 8% according to the consumer price index.
According to the survey, inflation should not halve until Q2 2023, averaging 8.1%, 3.9% and 2.5% in 2022, 2023 and 2024 respectively.
This week the focus will be on the release of the September PCE index in the US.
According to forecasts, the core indicator will be 0.3%, as in the previous month, while the core will decrease to 0.5% from 0.6% in August.
If the forecasts come true, the dollar will not receive additional support, since the market has practically taken into account the future moves of the Fed in quotes.
However, if the numbers turn out to be higher than expected, this could push the greenback higher, since in this case, expectations of a 75 bps Fed rate hike in December will grow and the peak rate will already be set above 5% in 2023.
In the first scenario, the dollar may fall even lower, and in the second, it may resume its upward trend and test new highs.
Most investors are now wondering when the dollar will peak and what the catalysts are, TD Securities said. They believe that the USD may continue its recent growth until the Fed changes its position or until growth resumes in other countries.
"We believe that a reversal in global growth and a pause in pricing the Fed's terminal rate (we are at 5%) will be required to reach the dollar's peak. While changes in the Fed's position could stop the rally, a trough in the global growth outlook is likely to be a more important signal to start trending against the USD. There are some early indications that the risk of stagflation has peaked, but we believe it will take a little more time before moving on to new topics," TD Securities said in a statement.
As for the EUR/USD, analysts at Societe Generale say the bad news is already priced in, so the bar for a return to the low near 0.9550 is set quite high, even with the German economy flirting with a recession. At the same time, the 0.9950 area is a significant resistance for bulls who aim to test the parity level, experts say.
The EUR/USD pair holds gains near key resistance above 0.9900. It can gain positive momentum by restoring parity, according to Scotiabank.
"The Ifo survey in Germany showed that business confidence in the country was slightly higher than expected in October; the index fell only slightly from 84.4 to 84.3 points, revised upwards in September. Expectations data also came in slightly better than expected (75.6 points) and a fraction higher than in September, but the combination of a weak current valuation and expectations clearly points to the risk of a recession in Germany," the bank's strategists said.
"We think a rise above 0.9900-0.9910 should allow EUR/USD to test the main trend (from the February high) at 0.9935-9940. Reaching the 1.00+ level will reinforce the positive technical tone in the near term. Support is in the 0.9810-0.9815 area," they added.