EUR/USD -- Levels to Watch Post ECB

EUR/USD is trading sharply lower ahead of the European Central Bank’s monetary policy announcement. Over the past 6 weeks there’s been widespread deterioration in business activity prompting investors to position for a dovish outlook. Even Germany’s Bundesbank head said recent indications for Germany in the first quarter were “not so brilliant.” However we can’t assume overwhelming dovishness from Draghi because last Friday he also said their confidence in the inflation outlook increased as the growth momentum is expected to continue. Inflation has also been on the rise so underneath the weakness there are positive developments. The question for Thursday is whether recent deterioration overshadows the uptick in inflation and positive growth momentum. We know that the ECB is not ready to raise interest rates and they certainly don’t want to see EUR/USD back above 1.24 because that would offset the improvements in prices. Yet they also want to end QE purchases this year -- so Mario Draghi has quite the balancing act to do on Thursday.

If ECB is dovish and the EUR/USD falls, the next stop should be 1.2100, which was resistance in early January and then 1.20, the 200-day SMA. EUR/USD has already broken below the 100-day SMA so the path of least resistance is lower. If they are not as dovish as investors anticipate and EURUSD finds itself back above 1.2250, the rally should extend to at least 1.2320.