EUR/USD Forecast: Investors could ignore overbought conditions on a hawkish ECB

• EUR/USD has retreated modestly toward 1.1000 following Wednesday's upsurge.
• European Central Bank (ECB) is forecast to raise key rates by 50 bps.
• Diverging ECB and Fed policy outlooks could allow EUR/USD to extend the rally.

EUR/USD has retreated modestly after having reached its highest level since early April at 1.1033 during the Asian trading hours on Thursday. The pair's technical outlook points to overbought conditions in the short term but market participants could bet on further Euro strength in case the European Central Bank (ECB) repeats the hawkish message.

The US Dollar came under heavy selling pressure on Wednesday despite FOMC Chairman Jerome Powell's desperate attempt to convince markets that there will not be a policy pivot in 2023.

The Federal Reserve (Fed) announced that it raised its policy rate by 25 basis points (bps) to the range of 4.5-4.75% as expected. In its policy statement, the Fed reiterated that "ongoing increases in the target range will be appropriate,” pointing to at least two more rate hikes in March and May. On a dovish note, the US central bank has changed its language on inflation and noted that inflation "has eased somewhat."

The initial reaction to the policy statement, the US Dollar managed to hold its ground against its rivals. During the press conference, however, FOMC Chairman Jerome Powell acknowledged that the disinflation process started. Powell further added that a faster than expected decline in inflation would play into the policy, triggering a US Dollar selloff.

Later in the session, the ECB is widely expected to raise its policy rate by 50 bps. The decision by itself is largely priced in and is unlikely to receive a significant reaction. Some ECB policymakers have been advocating for one more 50 bps at the next meeting and the Euro could gather strength in case the policy statement or ECB President Christine Lagarde confirms such action.

Additionally, EUR/USD could preserve its bullish momentum if the ECB refrains from delivering an optimistic tone regarding the inflation outlook. Markets still think that there is a chance that the ECB could opt for a rate cut later in the year and Lagarde could dismiss that view and help the Euro continue to outperform the US Dollar.

On the other hand, the Euro could lose interest in case Lagarde acknowledges signs of easing price pressures in the Eurozone and leaves the door open to a smaller rate hike at the next meeting depending on economic developments.

European Central Bank Preview: Lagarde needs to repeat her hawkish message.

EUR/USD Technical Analysis

EUR/USD has pierced through the ascending channel coming from early January after having stayed below it earlier in the week. Moreover, the Relative Strength Index (RSI) indicator on the four-hour chart stays above 70, confirming the pair's overbought conditions.

On the downside, 1.0980 (former resistance, upper limit of the ascending channel) aligns as initial support ahead of 1.0940 (mid-point of the ascending channel) and 1.0920 (former resistance, static level). 

In case the pair extends its rally on a hawkish ECB message, 1.1030 (static level) aligns as interim resistance before 1.1100 (psychological level, static level) and 1.1140 (static level).