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  • EUR/USD charted a bearish outside reversal last week, signaling an end of the rally from August lows.
  • Italy-Germany yield differential may continue to rise on fears that Italy may be downgraded at a time when the ECB is about to begin the QE taper.

The EUR/USD fell sharply on Friday as Italy’s decision to adopt a 2.4 percent deficit target for 2019 triggered a sell-off in the Italian bonds.

Notably, the spread between the 10-year Italian government bond yield and its German counterpart jumped almost 30 basis points to 267 basis points and the currency pair ended up charting a bearish outside reversal on the weekly chart. The candlestick pattern indicates the rally from the Aug. 15 low of 1.1301 has likely ended at the last week’s high of 1.1815.

So, it seems safe to say that the pair is on the defensive and may suffer a deeper drop today if the Italian bonds extend Friday’s decline.

Moreover, the Italy-Germany yield spread could continue rising in the EUR-negative manner this week as speculation is gathering pace that ratings agency Moody’s might downgrade Italy this month. Further, the French banks reportedly have a staggering $319 billion exposure in Italy and Germany has the second highest exposure.

The fears of ratings downgrade and the vulnerability of the German and French banks to sell-off in Italian debt could complicate the ECB’s QE taper plans.

It is worth noting that German retail sales data, scheduled for release at 6:00 GMT, could be overshadowed by Italy’s fiscal concerns.  

EUR/USD Technical Levels

At press time, the EUR/USD pair is trading at 1.1595, having clocked a high of 1.1618 in Asia.

Resistance: 1.1609 (50-day moving average), 1.1650 (Sept. 19 low), 1.1668 (5-day moving average)

Support: 1.1570 (Friday’s low), 1.1526 (Sept. 10 low), 1.15 (psychological level)