EUR/USD Under Pressure as US Data and Geopolitical Risks Support Dollar

EUR/USD edged lower on Wednesday after finishing the prior session almost flat, with the euro slipping as firmer US data supported the dollar and Middle East tensions underpinned demand for the Greenback. The pair traded near 1.1607, extending the week’s decline, while the US Dollar Index (DXY) hovered around 99.45, up 0.25% on the day and close to the top of its recent range.

US releases showed ADP private payrolls rose to 122K in May from 105K in April, above the 117K consensus and the strongest print since January 2025. The ISM Services PMI increased to 54.5 from 53.6, beating a 53.8 forecast, although the final S&P Global Services PMI eased to 50.7 from 50.9 and missed expectations of 51. Markets are pricing expectations for the Federal Reserve to hold rates in coming months, and CME FedWatch indicates a 40% probability of a 25 bps rise in December, as policymakers assess inflation risks linked to higher oil prices and supply disruptions around the Strait of Hormuz.

In the euro area, expectations for tighter European Central Bank policy have firmed after preliminary figures showed inflation rising to 3.2% in May, the highest since September 2023, while core inflation accelerated to 2.5%. A Reuters survey found 74 of 80 economists looking for the ECB to lift the deposit rate to 2.25% at its June meeting.

Dollar Strength and Inflation Dynamics Shape Currency Outlook

We are watching the US Dollar’s strength push the EUR/USD pair lower towards 1.1600, supported by robust data like the recent ISM Services PMI climb to 54.5. This reinforces the view that the Federal Reserve will stay on hold, keeping US interest rates attractive. Meanwhile, rising inflation in the Eurozone is forcing the European Central Bank to consider its own rate hikes.

With US private payrolls showing surprising strength, we believe the Federal Reserve has little reason to alter its course in the near term. The market is pricing a 40% chance of a rate hike by December, which gives the dollar a firm underlying bid. This suggests that selling short-term EUR/USD call options or buying puts could be a viable strategy to position for further downside.

Volatility and Geopolitical Risks Suggest Strategic Positioning

Across the Atlantic, the situation is getting tense as Eurozone inflation just printed at 3.2%, a level that pressures the European Central Bank to act. A rate hike at the next meeting is now almost fully expected, with money markets pricing in a 90% probability of a 25 basis point increase. The real question is whether this will be a single adjustment or the start of a more aggressive cycle to fight inflation.

Given these powerful opposing forces, we anticipate a significant rise in currency volatility. Looking at the VIX index, which recently fell below 13, general market complacency is high, making options relatively cheap. Therefore, we are considering long volatility strategies on the EUR/USD, such as straddles, to profit from a sharp breakout in either direction following the central bank meetings.

We must also factor in the geopolitical risk from the Middle East, which is adding a premium to oil prices. Historically, sustained periods of tension around the Strait of Hormuz have often fueled a flight to the safety of the US Dollar. This provides another layer of support for the greenback and a headwind for the euro.