The euro has weakened in line with a broader USD advance, even as Eurozone price pressures have firmed and shifted the European Central Bank towards a more hawkish posture. Headline inflation rose to 3.2% year-on-year in May, while core inflation increased to 2.5%, keeping both gauges above target and reinforcing concerns about persistence.
National Bank Canada frames EUR/USD mainly through the dollar cycle, with a year-end target of 1.19 versus 1.16 currently. The bank expects the dollar to ease as Federal Reserve repricing runs its course and a second-half depreciation trend re-emerges, allowing the single currency to drift higher. However, gains are seen as gradual unless Eurozone growth strengthens more convincingly or short-term rate spreads move further against the dollar. A hawkish ECB may limit downside, particularly if markets price some risk of renewed tightening, but that would be insufficient for a durable rally if the Fed is also repriced in a hawkish direction.
US Dollar Strength and Eurozone Inflation Dynamics
We see the Euro’s recent softness as primarily a story about the US dollar’s strength. Despite Eurozone inflation hitting 3.2% in May, the dollar is being propped up by a very strong US labor market, which just added over 250,000 jobs last month. This keeps the Federal Reserve in a tough spot and caps the Euro’s potential for now.
Given this, we believe the path to our 1.19 year-end target for EUR/USD will be gradual and choppy. In the coming weeks, traders could consider long call spreads, perhaps buying a 1.17 strike and selling a 1.19 strike for August or September expiration. This strategy profits from a slow grind higher while capping risk if the dollar rally unexpectedly resumes.
ECB Policy, Trading Strategies, and Key Data Catalysts
On the downside, the European Central Bank’s hawkish tone should provide a floor for the currency. We think selling out-of-the-money puts with strikes around 1.14 could be an effective way to collect premium, as a significant break lower seems unlikely. Historically, even during periods of dollar strength, central bank policy can create solid support levels.
Our view that the dollar will moderate later this year hinges on upcoming US economic data. We are closely watching the next Consumer Price Index (CPI) report, especially since core inflation remains stubbornly above 3%. A miss in these inflation figures would be the primary catalyst to accelerate the Euro’s move towards our 1.19 target.
