EUR/USD has stabilized after a four-day decline, bouncing back from a two-month low. The Euro is trading at around 1.1621, up by 0.50% as the US Dollar weakens. However, this recovery comes despite its biggest weekly drop since July, mainly due to political issues in France. The resignation of French Prime Minister Sébastien Lecornu has heightened fears of political instability. President Macron needs to quickly appoint a new prime minister and finalize the budget before the year ends. While snap elections seem unlikely now, they may occur if coalition talks don’t progress.

US Government Shutdown Continues

In the US, the government shut down has now lasted ten days without resolution. The Senate will not vote until Tuesday, raising worries about economic effects if the impasse persists into mid-October. The shutdown has pushed back the September Non-Farm Payrolls report, but the Bureau of Labor Statistics will release the September Consumer Price Index by October 24. Recently, the University of Michigan Consumer Sentiment Index showed a slight uptick to 55.0, although it’s still slightly below September’s figure. Inflation expectations have barely changed, with the 1-year outlook dropping slightly to 4.6%. The US Dollar showed mixed results against major currencies, strengthening by 1.02% against the Australian Dollar. As EUR/USD hovers around 1.1620, the focus now is on political news from both sides of the Atlantic. Next week’s direction for the pair will heavily depend on whether French President Macron can appoint a stable new prime minister and if US lawmakers make progress on the shutdown. This period is likely to have significant event risks, with sudden swings instead of clear trends. The political crisis in France presents a distinct risk for the Euro, suggesting traders should prepare for volatility. We’ve seen similar weakness in the Euro from political uncertainty during the 2017 French election cycle, which later rallied strongly once a favorable outcome was determined. A solid appointment by Macron could lead to a relief rally, making short-term call options on the Euro a potentially good opportunity.

Shutdown and Its Economic Impact

Currently, the US government shutdown is the main factor causing the dollar to weaken. Historically, the Congressional Budget Office estimated that the 35-day shutdown from 2018-2019 cost the US economy about $11 billion. Given this history, the market is understandably concerned about the economic impact if the shutdown continues. Until a solution is found, the US dollar may struggle to maintain strength against other currencies. This dual uncertainty has pushed the VIX index, which measures market fear, above 25 this week, indicating increased risk aversion. Due to the opposing forces affecting EUR/USD, traders may want to consider strategies like straddles or strangles, which can benefit from significant price movements in either direction. Implied volatility for one-month options is expected to stay high until both the French political situation and the US shutdown are resolved. The key date to watch is October 24, when the September CPI inflation data will be released. This data is crucial, arriving just before the Federal Reserve’s meeting and will significantly influence their decision-making. A higher-than-expected inflation rate could overshadow shutdown issues and boost the dollar as rate hike expectations rise. Recent data from the Commitment of Traders (CFTC) shows large speculators have been reducing their net-long Euro positions in recent weeks. This suggests that caution is already factored in and that the market is scaling back on bullish bets. Consequently, if a positive resolution emerges from France, there could be a sharp rebound as traders rush to re-establish their positions. Create your live VT Markets account and start trading now.

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