EUR/USD: French budget issues a cause for concern among traders

The EUR/USD continued its slide, failing to benefit at all from the respite seen late last week in bond and oil markets. The overall backdrop remains unchanged, with the single currency weighed down by waning risk appetite and chronic wariness regarding France's fiscal situation.

"Markets are keeping the pressure on France, with the 10-year yield spread against Germany widening back to 140 basis points late last week - a high not seen since Draghi's 'whatever it takes' speech in 2012," note economists at LBPAM.

"This follows, in particular, remarks by the Governor of the Bank of France, who indicated he did not believe 'conditions were ripe for ECB intervention' - given that the ECB's mandate is to fight inflation, 'not to resolve France's fiscal problems.' However, these statements come as no surprise. Financial conditions in the Eurozone (affecting banks, or beyond France...) would need to deteriorate significantly further, and France would need to make much more substantial fiscal efforts, for the ECB to even consider intervening in French debt."

"Does this mean we should fear a new euro crisis?" ask economists at DWS. "The draft budget presented on 2 October projects a public deficit of 5% of gross domestic product (GDP) in 2027. Such a level would remain insufficient to put public finances back on a sustainable long-term path, especially given that rising borrowing costs are increasing the debt burden. France continues, however, to borrow on the markets. The real question is whether it will succeed in sustainably restoring its public finances, given that its debt is expected to exceed 119% of GDP by 2027."

Last week, currency traders focused on the release of the Fed minutes - the chronological record of the debates held during the most recent monetary policy committee meeting. The minutes reveal that a significant number of Board members do not rule out (and are even considering) another 25-basis-point hike in the federal funds rate before the end of the year, though they are in no rush to do so. The next FOMC meeting concludes on 27 October, with the probability of rates remaining unchanged standing at nearly 75%, according to CME Group's FedWatch tool.

"What stands out in the FOMC meeting minutes is the diversity of arguments that led Fed officials to the same conclusion," notes Lale Akoner, a market analyst at eToro.

"Some favoured another rate hike to prevent a resurgence of inflation, while others believed the economy's strength already justified it. Under these circumstances, the possibility of another hike cannot be ruled out, even though the Fed prefers to wait for more data before making a decision. A pause in October, while keeping the door open for a hike in December, therefore appears to be a reasonable approach." Traders should note that trading activity may be affected by the absence of many market participants due to Columbus Day. Trading - outside of the bond market - will continue as usual. No major macroeconomic data releases are scheduled for the session.

Right now, the EUR/USD is trading at $1.1178 against the US dollar.

KEY TECHNICAL FACTORS
Following a period of sideways movement, the bearish volatility observed on 13 September indicated a breakout direction that allows us to resume short positions on this major currency pair. The increase in volatility on 15 September - triggered by a break below the 50-day moving average (shown in orange) - supports this scenario, as do the sharp bearish acceleration on September 23 and the precise pullback on 24 September to the $1.1411 level, which has now shifted to major resistance.

MEDIUM-TERM OUTLOOK
Based on the key technical factors mentioned, our medium-term outlook for the EUR/USD is bearish.

Our entry point is $1.1205. The target price for our bearish scenario is $1.0609. To protect invested capital, we recommend placing a stop-loss order at $1.1341.

The expected return for this strategy is 596 pips, with a potential loss of 136 pips.