Euro Hits 2 Month Lows, How to Trade ECB

On the eve of one of this year's most important European Central Bank monetary policy announcements, the euro is trading at a 2 month low versus the US dollar.The single currency broke below 1.12 overnight and extended its losses during the NY session. While everyone is talking about the prospect of an interest rate cut in the US, the ECB could also lower interest rates. Typically they like to prepare investors for major changes, which is why they are expected to take the major step of altering their forward guidance this week.

The ECB could easily add accommodation in July but according to the following table that highlights the changes in the economy since their last meeting, they have the flexibility of waiting until their economic projections are updated in September.Business sentiment is down and manufacturing activity weakened but consumer spending is up, the labor market improved and inflation ticked higher. With that in mind, the overall outlook is still grim.   Low inflation is a serious problem for the central bank with CPI hovering around 1.3% in the Eurozone. Q1 GDP growth of 0.4% is also well below trend and the threat of tariffs on Europe could dampen the outlook further.

A number of economists are looking for a September rate cut but the central bank could be more aggressive opting for a package of accommodative measures that include asset purchases and a deposit rate cut. Technically, the EUR/USD has completely broken down. If the ECB is sufficiently dovish, the pair could break its 2 year low of 1.1106. However if they sound noncommittal in anyway, it will set the stage for a massive short squeeze in EUR/USD ahead of next week's FOMC meeting, where the Federal Reserve is expected to lower interest rates for the first time since the global financial crisis.

The US dollar traded higher against all of the major currencies despite lower existing home sales. The New Zealand dollar was the worst performer, followed by the Australian dollar. Sterling fell as well but mostly due to a softer CBI index than Boris Johnson's confirmation as Prime Minister. The market has discounted his victory and took his comment about sticking to the October 31st leave date in stride. With that in mind, the lack of concession in Johnson's voice could make the weeks ahead difficult for sterling.