The European Central Bank (ECB) is slated to hold its next monetary policy meeting this morning and traders are waiting to see whether the Eurozone's central bank will participate in a full-fledged currency war like the Federal Reserve (Fed) and the Bank of Japan (BOJ).
"I expect Draghi to stand pat, which would effectively lead me to keep a euro-bull bias over the medium term. The ECB is effectively allowing a tightening of monetary policy as European banks begin to pay back their LTROs. It will be interesting to see whether Draghi looks to offset this liquidity contraction by lowering the key interest rate. Any such move or strong statements in that direction will prompt me to take a euro-bearish stance, especially in the most extreme short-term. I definitely do not want to take any positions ahead of the ECB meeting and Draghi's press conference," said FXmania analyst Jose Piñeiro.
Piñeiro advises traders to wait at least an hour or two before taking any new positions on the euro because market volatility can easily take out positions prematurely. The best bet for those who want to trade this news event is to wait for volatility to die down and not to place stop orders too tight.
Analysts widely expect Draghi to steer clear of any sort of heavy discussion on exchange rates
since it is not an element of the central bank's policy strategy. German economic minister Philipp Rösler has recently been keen to point out the monetary authority's limitations after French president Francois Hollande noted that the Eurozone must defend its currency and make efforts to limit large price swings.
Nonetheless, analysts agree that a strong euro is a real concern that the ECB should take under consideration. The strong euro is hurting the Eurozone's competitiveness, which can quickly hamper recovery efforts.
"The ECB cannot allow itself to be left behind by the strongly expansionary policies put in place by other central banks such as the Fed and the BOJ. Although the ECB will not be as aggressive in driving down its currency, which is much more fickle and vulnerable than the US dollar
and Japanese yen, the ECB cannot allow its policy to head in the opposite direction," says Piñeiro.
Potential Euro/Dollar trading set-ups
Piñeiro sees the trading options available to trade the ECB's monetary policy decision as the following:
Long Euro/Dollar scenario
"If the ECB and Draghi stand pat and do not change course from previous meetings, we expect the Euro/Dollar to continue its underlying trend and make a move towards the resistance level at around 1.3700, the high reached on February 1st. A close above resistance at 1,3595 on the hourly chart would be our signal to go long. A stop-loss order must be placed below 1.3595, concretely at around 1.3575, giving us a margin of 20 pips and an attractive risk-return trade-off."
Short Euro/Dollar scenario
"Any references to subdued inflation and a slow recovery will be considered the norm. As such, we would be looking to be short if the ECB takes specific expansionary actions or if Draghi makes very aggressive statements about an imminent move at the next meeting. In that case we would wait out the initial price swings produced by market volatility before placing our shorts. Any short below 1.3700 is fair game, although 1.3600 would be preferable in so far as it would show that the bears have a tighter grip on things."
"In that scenario we would widen our stop-loss margin to around 40-50 pips and look for a move towards 1.3460. If the bears take hold, this should be an easy level to take out and we could have a more ambitious price target. We would attach a trailing stop to lock in profits in such a scenario."