14.05.202107:36 Forex Analysis & Reviews: USD weakens while EUR spreads wings

Dollar bulls are now puzzled by USD movements. Besides, the market is now unpredictable. The US dollar prospects darkened considerably last Friday when the NFP report for April turned out to be worse than expected. Inflation woes have added fuel to the fire. Now uncertainty is even higher.

During yesterday's session, the US dollar managed to extend gains. The US dollar index recovered by almost 0.7%, ending the day at around 90.7. Today, it tried to grow, but not so sharply. Of course, the market reaction was extremely impulsive. Traders opened long positions on the US dollar in the expectation that rising inflationary pressures would force the Fed to begin a gradual tightening of monetary policy. Will the regulator take such a step?

A hike in interest rates will lead to the end of the business cycle and may trigger a downturn. The regulator is unlikely to continue to make injections in the economy as consumer prices are growing. It may cause uncontrolled inflation and deliver a devastating blow to the US dollar as a reserve currency.

As we know speculators usually avoid trading when markets are gripped by high uncertainty. That is why the US stock indexes nosedived. Yet. it is likely to be a short-term decline. When investors calm down and evaluate the situation properly, US stock indexes are sure to gain momentum. Besides, the regulator is highly unlikely to tighten its monetary policy and traders are well aware of this.

Yesterday's inflation report will not affect the Fed's approach. The increase in April inflation was mainly due to the resumption of activity in a number of sectors. Supply disruptions can also be a reason. As lockdowns in many states are completely lifted and international logistics are restored, the distribution problems will become a thing of the past.

Nevertheless, Fed officials will not completely ignore what has happened. However, the moderate growth of the cyclical components of the index confirms a temporary acceleration of inflation expectations. This is not enough to change the course of monetary policy. The Fed will stick to its dovish stance, which is bearish for the US dollar, especially in the long term.

Notably, the US dollar rally was supported by long-term US government bond yields, which have been rising since Friday. It is unusual to see a combination of cheap long-term Treasuries and a decline in risk appetite. If this situation does not change and the yield on 10 and 30-year Treasuries reach new highs, the US dollar may spread wings.

The greenback may resume the upward movement if risk sentiment stabilizes and there is a decrease in US Treasures yields compared to other countries.

On Thursday, risk appetite showed modest growth. The yield on 10-year Treasuries increased to 1.70%.

Traders are awaiting data on the producer price index (PPI) for April and weekly data on the number of initial jobless claims. Jobless claims have fallen to a new pandemic low. Thus, the US labor market continues to recover as the population gets vaccinated and consumer demand increases, helping to stimulate economic activity.

As for EUR/USD, bears took the upper hand yesterday, sending the pair below 1.2100. Today, the euro is trying to edge higher. It managed to add gains. Yet the bulls are currently unable to provide support for the euro

The struggle between bulls and bears was seen in the area of 1.2050. Importantly, this area coincides with the correction level of the November-January rally.

However, bulls are set to recoup all the early losses, breaking through the 1,2100 level again. The main driver for the euro is still the dovish policy of the Fed, along with the ongoing recovery in Europe and the acceleration of vaccination rates.

Bulls need to push EUR/USD above the area of monthly highs around 1.2180. If they succeed, the pair is likely to resume the uptrend. The nearest target level is 1.2200.