The sharp rebound in the euro last week seems to be temporary, as the negative factors concerning the single currency still remain intact.
The euro posted its largest weekly gains against the US dollar in three years last week after the Federal Reserve lowered its growth and inflation forecasts for 2015 and 2016. The Fed also lowered its interest rate projections.
The common currency appreciated by 3.2 percent against the greenback last week, marking its best weekly performance since October 2011.
Investors now expect the US central bank to hike interest rates in the second half of 2015 as last Wednesday's Fed statement gave a clear signal that mid-year rate hike is a distant possibility.
"We expect the U.S. wage inflation to start moving higher in H2 this year and even though core inflation is likely to trend lower in the coming months, we believe that these factors will ultimately convince the FOMC to raise the fed funds rate in September this year," said Danske Bank in its recent report.
However, the monetary policy divergence is likely to remain a key driver of the EUR/USD crossover in the coming months, as expectations over the Fed's rate hike are still in place compared to monetary easing by the European Central Bank (ECB). Besides, concerns over Greece crisis will continue to weigh on the euro.
"We maintain our call that EUR/USD will remain soft on a 3-6M horizon as the Draghi-Yellen divergence continues to weigh. We also maintain that a rebound is in store towards year end as the ECB embraces a rise in eurozone inflation, and the Fed tightens policy only very slowly. We still target 1.08 in 12M," said Danske Bank.
On the data side this week, the key focus will be on flash purchasing managers' index (PMI) for the eurozone in March scheduled to be released on Tuesday, and German IFO business climate for March on Wednesday.
The consensus forecast for the eurozone flash composite PMI looks for an increase to 53.6 in March from 53.3 in the previous month. The German IFO is expected to rise to 107.3 in March from 106.8 in February.
"We do not expect the medium-term downward trend in EURUSD to change after the dovish surprise from the Fed and prefer using its rebound as opportunity to establish short EURUSD positions at a better entry level. Local data are likely to weigh on the pair this week, as we expect slightly firmer CPI from the US and softer flash PMIs from euro area," said Barclays Capital in a note.
