Euro outlook : RBC

RBC Capital Markets notes:

1 - 3 Month Outlook - Less of a dip

After four months of discussions and negotiations, we are approaching a real deadline for Greece. On June 30, thecurrent programme extension expires. Before then, Greece needs to pay the IMF a total of EUR 1.6bn (with the firstpayment due on June 5) and it needs to pay wages and pensions, neither of which it has the money to do. 

So unless a deal is done in the next three weeks, Greece will default internally, externally, the second bailout will expire and pending funds will be lost. But we think a deal will be done - and it appears the Greek govt is less keen on a referendum (or snap elections) making it now more likely in our view that any deal will be put directly to Parliament. 

We also think that vote in Parliament will be positive, bringing an end to this period of maximum uncertainty regarding Greece's EUR membership. The other big short-term driver for EUR is price action in European govt bonds, as discussed last month. 

While Bund yields were at the highs heading into the ECB's June meeting, Draghi purposefully passed up the opportunity to push back on the tightening in financial conditions - the market reacted by taking yields higher still (10y Bund now at 88bps, a 7 month high). 

Our European rates strategists have discussed how this risks being the "wrong" kind of bond sell-off (i.e. threatening the early green economic shoots, more here). Balancing Greece and price action in EGBs with lighter short EUR positioning and our expectation for some USD strength as we get closer to a September Fed hike, we ave nudged up our end-June forecast (1.05 to 1.07) and retain our end-Q3 forecast of 1.07 and our end-2015 forecast of 1.11.

Technically, a daily close above resistance at 1.1245 will add to corrective price momentum, exposing 1.1450 and 1.1534 as the next topside/resistance targets to watch. Support at 1.1066 and 1.0870 is expected to attract buying interest while the correction persists, with a close below the recent low at 1.0819 required to nullify the retracement scenario.

6 - 12 Month Outlook - Modest recovery

Further out, we still look for a modest EUR recovery off a lower base, as the positive effects of QE/credit easing feedthrough. Inflation is now trending higher as the effect of weaker EUR and the base effects of the bounce in oil start tofeed through. But the economic recovery will take some time to feed into higher inflation capping our longerterm forecasts both for inflation and EUR.