Euro rebounds sharply from 17-month low – what's driving the recovery?

The euro rose broadly against a basket of major currencies in European trading on Thursday, rebounding sharply from a 17-month low against the US dollar amid strong bargain-hunting demand.

The euro's gains were supported by a weaker US dollar after the 10-year US Treasury yield fell to its lowest level in three weeks. The decline followed less hawkish remarks from several Federal Reserve officials, which helped reduce market expectations for a US interest rate hike in October.

Price overview

• EUR/USD today: The euro rose 0.75% against the US dollar to $1.1241, compared with today's opening price of $1.1156, while recording a session low of $1.1147.

• The euro ended Wednesday's trading down 0.4% against the dollar, hitting a 17-month low of $1.1113 following the release of hotter-than-expected US inflation data.

US dollar

The US dollar index fell 0.65% on Thursday, retreating from an 18-month high of 102.95 points and reflecting broad-based weakness in the US currency against a basket of major and minor currencies.

In addition to accelerating profit-taking, the US dollar came under pressure from falling Treasury yields, particularly as expectations for a Federal Reserve interest rate hike in October continued to fade.

The yield on the benchmark 10-year US Treasury note fell more than 2% on Thursday, extending its losses for a third consecutive session and hitting a three-week low of 5.089%. The yield is now moving toward a potential break below the 5% threshold, putting significant downward pressure on the US dollar.

Federal Reserve Governor Michelle Bowman said the central bank had sufficient time to wait and assess developments in financial markets and the economy following September's interest rate hike before deciding whether further action was necessary.

San Francisco Federal Reserve President Mary Daly said another interest rate hike would likely be needed, but there was no urgency to act. She noted that the central bank could afford to wait until the economic outlook became clearer.

Following these remarks, according to CME Group's FedWatch tool, market expectations for the Federal Reserve to leave interest rates unchanged at its October meeting rose to 68% from 46%, while the probability of a 25-basis-point rate hike fell to 32% from 54%.

European interest rates

• European Central Bank (ECB) President Christine Lagarde said the bank was closely monitoring the risk that rising energy prices, driven by geopolitical developments, could feed through into wages and the prices of goods and services, potentially keeping inflationary pressures elevated for longer.

• Lagarde added that the ECB was tracking wage developments and workers' pay demands to identify any additional pressures that could affect the inflation outlook. She also stressed that the central bank was prepared to act if signs of further inflationary pressure emerged.

• Money markets are currently pricing in approximately a 50% probability of a 25-basis-point interest rate hike by the ECB in October.

• Investors are awaiting further eurozone economic data on growth, inflation, unemployment and wages to reassess these expectations.

Euro outlook

We expect the euro to maintain its positive momentum as bargain-hunting demand continues to strengthen. The single currency could climb to its highest level in at least two weeks if further US economic data and Federal Reserve officials' remarks continue to reduce expectations for an October interest rate hike.