EUR/USD Bounces Ahead of January Low Again But RSI Divergence Persists

EUR/USD Rate Talking Points

EUR/USD appears to have marked another failed attempt to test the January low (1.2054) as it bounces back from the session low (1.2070), but the exchange rate may face a larger pullback as the Relative Strength Index (RSI) still tracks the downward trend carried over from December.

EUR/USD Bounces Ahead of January Low Again But RSI Divergence Persists

EUR/USD continues to consolidate following the Federal Reserve’s first meeting for 2021 to retain the monthly range, and key market themes may keep the exchange rate afloat as the US Dollar still broadly reflect an inverse relationship with investor confidence.

However, fresh data prints coming out of the Euro Area may drag on EUR/USD as the update to the Gross Domestic Product (GDP) report is anticipated to show the economy contracting 1.0% in the fourth quarter of 2020, and it remains to be seen if the European Central Bank (ECB) will take additional steps to support the monetary union as Governing Council acknowledges that “the risks surrounding the euro area growth outlook remain tilted to the downside but less pronounced.”

It seems as though the ECB will rely on its current tools to achieve its policy targets after announcing plans to carry out the EUR 1.850 trillion pandemic emergency purchase programme (PEPP) “until at least the end of March 2022 and, in any case, until the Governing Council judges that the coronavirus crisis phase is over,” and the central bank may stick to the sidelines at the next meeting on March 11 as Chief Economist Philip Lane emphasizes that “our active toolbox is a combination of our short term rates, asset purchases, targeted lending and our forward guidance” during a recent interview with Süddeutsche Zeitung.

The comments suggest the ECB will retain the current course for monetary policy especially as fiscal authorities plan to roll out the Next Generation EU package in 2021, and key market themes may continue to sway EUR/USD as President Christine Lagarde and Co. appear to be in no rush to switch gears.

At the same time, the tilt in retail sentiment looks poised to persist as traders have been net-short EUR/USD since November, with the IG Client Sentiment report showing 44.74% of traders currently net-long the pair as the ratio of traders short to long stands at 1.24 to 1.

The number of traders net-long is 36.05% higher than yesterday and 5.25% higher from last week, while the number of traders net-short is 3.20% lower than yesterday and 12.80% lower from last week. The decline in net-long position comes as EUR/USD appears to have marked another failed attempt to test the January low (1.2054), while the decline in net-short interest has helped to alleviate the crowding behavior as 41.60% of traders were net-long the pair during the previous week.

With that said, the decline from the January high (1.2350) may turn out to be a correction in the broader trend rather than a change in EUR/USD behavior as key market themes remain in place, but the exchange rate remains susceptible to a larger pullback as long as the Relative Strength Index (RSI) tracks the downward trend established in December.

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EUR/USD Rate Daily Chart

Source: Trading View

• Keep in mind, the EUR/USDcorrection from the September high (1.2011) proved to be an exhaustion in the bullish price action rather than a change in trend following the string of failed attempts to close below the 1.1600 (61.8% expansion) to 1.1640 (23.6% expansion) region, with the Relative Strength Index (RSI) highlighting a similar dynamic as it broke out of the downward trend carried over from the end of July to recover from its lowest readings since March.
• The break/close above the 1.1960 (38.2% retracement) to 1.1970 (23.6% expansion) region pushed EUR/USD to a fresh yearly highs throughout December, with the exchange rate taking out the 2020 high (1.2310) during the first week of January.
• However, EUR/USD has snapped the monthly opening range following the failed attempt to test the April 2018 high (1.2414), with the exchange rate still susceptible to a larger pullback as the RSI continues to track the downward trend established in December.
• Failure to hold above the Fibonacci overlap around 1.2140 (50% retracement) to 1.2370 (61.8% expansion) has pushed EUR/USD back below the 50-Day SMA (1.2130), but need a close below the 1.2080 (78.6% retracement) region along with a break of the January low (1.2054) to bring the 1.2010 (100% expansion) area on the radar.
• Next region of interest comes in around 1.1960 (61.8% expansion) to 1.1970 (23.6% expansion) followed by the 1.1920 (78.6% expansion) area.

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— Written by David Song, Currency Strategist

Follow me on Twitter at @DavidJSong