In a surprise move, the ECB cut its main refinancing rate to +0.05% from +0.15%, alongside lowering its deposit and lending rates. This move should encourage euro-zone banks’ participation in the first TLTRO.
Market participants were expecting Draghi to provide more clarity on the timing of QE but the rate cut took them by surprise, as evidenced by a sharp drop in the euro.
EURUSD saw a free fall, setting a fresh-14 month low, while EURJPY fell below the 137 handle. Unsurprisingly, euro-zone bond yields also declined.
The ECB also unveiled a plan to buy ABS and covered bonds, though the size of the program was not given, and said that it would provide the further details about that on October 02.
Reuters reported early today that the size would be something around EUR500bn. Draghi predicted that TLTROs and the ABS program will have a significant impact on its balance sheet.
Today’s decisions underlined that the ECB is determined to stimulate flagging economic conditions through easing measures. This could mean that the euro will continue to remain under pressure while euro-zone yields will stay near record lows.
“We took into account the overall subdued outlook for inflation, the weakening in the growth momentum in the recent past. The Governing Council sees the risks around the economic outlook on the downside.”
Source: FxWire Pro
The recent data out of the euro-zone pained a gloomy picture, fuelling speculations that the ECB will expand its stimulus plan. 10-yr yields from Spain to Germany fell to record lows, as market participants expect the ECB to announce some form of easing steps when it meets on September 04, 2014.
Felix Herrmann, an analyst at DZ Bank AG in Frankfurt, says:
“It’s pretty straight forward; more and more investors are expecting something big to be announced at the beginning of September.”
The Spanish yield spread with bunds fell sharply as a plunge in yields on the latter prompted investors to hunt for relatively higher yields.
For the same reason, Italy’s yield spread with bunds also narrowed. Interestingly, market participants don’t pay much attention to fiscal conditions of Spain and Italy as they hope that the prospect of ECB easing should protect the value of their investments in those countries’ bonds.
The fall in euro-zone yields make the euro less attractive to traders, and the single currency is expected to decline further.
“EUR/USD has so far slipped to an August low at 1.3153 while en route to the 1.3105 September low and the psychological1.3000 region”.
Source: FxWire Pro
Quotes from Capital Economics:
– The euro finally appears to be giving way to the downward pressure from the divergent prospects for monetary policy in the US and euro-zone. But larger declines are likely to be necessary to kick-start the region’s recovery and eliminate the risk of deflation.
– We still think that the ECB will need to take further policy action – probably in the form of a quantitative easing programme – in order to engineer a more substantial fall in the single currency. So we would not be surprised to see the euro fall further than our central forecast suggests.
(Adds U.S. factory activity data, New York dateline)
* Chinese factory activity shrank again in April
* Euro zone businesses enjoy best month in nearly three years
* Deflation fears remain in euro zone
By Rodrigo Campos andJonathan Cable
NEW YORK/LONDON April 23 (Reuters) – The U.S. manufacturing sector expanded in April and the euro zone private sector started the second quarter on its strongest footing since 2011, while the pace of decline in Chinese factoryactivity slowed, surveys showed on Wednesday.
Factory activity continued to expand in the world’s largest economy, but the pace of growth stalled and came in below expectations. However, output growth hit its fastest in three years. Financial data firm Markit said its preliminary or “flash” U.S. Manufacturing Purchasing Managers Index dipped to 55.4 in April from 55.5 in March. Economists polled by Reuters expected a reading of 56.0. (news)
“The headline number isnot bad. It’s still above the 50 neutral threshold. The improvement is encouraging,” said Ryan Sweet, senior economist with Moody’s Analytics in West Chester, Pennsylvania.
“With this report, it suggests the manufacturing is gaining more ordersand has bounced back from the bad winter weather. Manufacturers are playing catching up.”
The data highlights expectations for a strong second quarter after the first one saw colder-than-average temperatures and massive snowstorms weigh on U.S.economic activity.
Earlier on Wednesday, data showed China’s HSBC/Markit flash PMI for April rose to 48.3 from March’s final reading of 48.0, but was still below the 50 line separating expansion from contraction. (news)
“It’sgenerally in line (with expectations), reflecting that growth momentum is stabilizing,” said Zhou Hao, China economist at ANZ in Shanghai.
Analysts see initial signs of stabilization in the world’s second-largest economy due to the government’stargeted measures to underpin growth, but believe more policy support may be needed as structural reforms put additional pressures on activity.
“The long slide in China that we have seen in recent months might have turned a corner,” said PeterDixon at Commerzbank.
GRAPHICS: – Markit Flash PMI: U.S., euro zone and China
– Global manufacturing PMIs:http://link.reuters.com/zuf89t ^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>
EURO ZONE SURPRISES
Growth in the euro zone was again led by Germany, the bloc’s largest economy, where the PMI jumped from March and was just shy of February’s 32-month high.
“Given the problems the euro zone faces, to get even a modest rate of positive growth this year is a good sign. But there is an increasing concern that two of the larger economies – Italy and France – arestruggling to gain any traction,” Commerzbank’s Dixon said.
Topping expectations of all 36 economists polled by Reuters, the bloc’s dominant services industry led the charge while manufacturers also had a stronger month than the median forecast had suggested.
But worryingly for policymakers, who have struggled to bring inflation up to their 2 percent target ceiling, service firms cut prices for the 29th month in a row, and did so at a steeper pace than in March.
Inflation fell tojust 0.5 percent in March, its sixth straight month in what European Central Bank President Mario Draghi has called a “danger zone” below 1 percent.
Still, the strong data gave support to the euro <EUR=>, which was up 0.28 percent against the U.S. dollar.
“Today’s figure buys the ECB a bit more time. With the recovery still on track there doesn’t seem to be an urgent need for strong action, though deflationary pressures still warrant attention,” Peter Vanden Houte at ING said. Markit’s flash composite PMI, widely regarded as a good gauge of growth, jumped to 54.0 in April from March’s 53.1, above the 50 mark for the 10th month and chalking up its highest reading since May 2011. A Reuters poll had predicted no change. “The PMI indicator corroborates the picture that the euro zone recovery has legs,” Vanden Houte said.
Aside from Germany the rest of the bloc also performed well apart from France, where although the index held above 50 for the second monthrunning it was down from the previous reading. The French PMI has been below the wider euro zone reading for 20 months.
(Additional reporting by Richard Leong in New York; Editing by Meredith Mazzilli) Reuters Messaging: email@example.com))
Yesterday, it was the British Pound’s turn to take a nose dive, falling apart after the dovish Bank of England Quarterly Inflation Report. Today, feeling left out in the race to the bottom, the Euro decided to join the ‘party,’ sliding by nearly a full percentage point against the US Dollar and to under 1.3350 – well-off its February 1 high of 1.3710 – as a bevy of important Euro-zone growth data disappointed across the board.
Not one single aspect of any 4Q’12 GDP data this morning – not on a quarterly or yearly basis, not from France, Italy, Germany, or the broader Euro-zone itself – beat consensus expectations provided by Bloomberg News. And yet what do European officials have to say? “We are aware the economic activity remains weak,” but, the data “are broadly in line with our expectations,” said Simon O’Connor, a spokesman for the European Union Economic and Monetary Commissioner Olli Rehn. Maybe this is the confirmation that the EUR/USD top is in place, something I conjectured on February 4.
This political complacency towards the weak growth situation across the continent is troublesome, because it not only confirms that the attitude of ‘just doing enough to satiate markets’ is persisting, but it means that the impetus to save the Euro-zone remains in the European Central Bank’s hands. While this is a burden that they undertook by promising to do “whatever it takes” to save the Euro, it now means that calls for an interest rate cut are likely to increase in the coming week. Until there is further policy clarification from President Mario Draghi, there will be an inherent underlying dovish push against the Euro in this regard. This should at least counterbalance any upside afforded by the LTRO repayments coming in. Focus is now on the Italian elections on February 24 and 25, which offers further downside in the Euro should Silvio Berlusconi win (polls currently have him trailing by -3.7%, within the +/-4% error margin).
Taking a look at European credit, peripheral yields have compressed despite the weak data, though the Euro has seemingly disconnected. The Italian 2-year note yield has fallen to 1.543% (-2.3-bps) while the Spanish 2-year note yield has decreased to 2.471% (-1.3-bps). Likewise, the Italian 10-year note yield has decreased to 4.383% (-0.4-bps) while the Spanish 10-year note yield has increased to 5.186% (+0.6-bps); lower yields imply higher prices.
The new month has brought about more of the same: Euro strength, Japanese Yen weakness, and a very confused US Dollar. Typical correlations seen in FX have been breaking down, and today is the perfect microcosm: the Euro, the Swiss Franc, and the New Zealand Dollar are outperforming; while the Australian Dollar, the Canadian Dollar, and the British Pound are low. Typically, the Euro, the British Pound, and the Swiss Franc are highly correlated, while the Australian, Canadian, and New Zealand Dollars trade together.
But shifting trends in Euro-zone financials (with the European Central Bank tightening its monetary policy vis-à-vis LTRO repayments, while maintaining the OMT safety net underneath Italian and Spanish bonds) has not only made the Euro a stalwart on a monetary basis, but also a bit of a – prepare to be shocked – safe haven, when concern over anything has arisen. This makes sense, in the near-term, simply because the Euro-zone debt crisis, while still existing, has been quelled, removing a great deal of uncertainty that clouds many of the other major currencies.
Accordingly, while I like the Euro higher now – both fundamentally and technically – it is only a matter of time before a) the Euro-zone crisis emerges, “surprising” everyone and b) the divergence in Euro-zone and US economics could provoke a sharp turnaround in the EURUSD. This divergence should be highlighted today, when the January US labor market reading is released, in which jobs growth maintains its uptrend; the expected print of +165K (updated consensus from Bloomberg News) would come in above the three-month, six-month, and twelve-month trailing averages of +151K, +160K, and +153K, respectively. Shortly after the US cash equity open, the January ISM Manufacturing print should maintain its slight rate of growth. Any near-term pullback in EURUSD as a result of today’s prints, in my opinion, does not mean the uptrend is over.
Taking a look at European credit, have fallen back, laying the groundwork for continuation in Euro strength. The Italian 2-year note yield has decreased to 1.524% (-8.1-bps) while the Spanish 2-year note yield has decreased to 2.473% (-3.7-bps). Likewise, the Italian 10-year note yield has decreased to 4.275% (-2.6-bps) while the Spanish 10-year note yield has decreased to 5.132% (-2.0-bps); lower yields imply higher prices.
High beta currencies and risk-correlated assets have been steadily improving over the past several hours as a combination of better than expected data and positive news out of the Euro-zone has restored some near-term confidence in the single currency. The Euro is the day’s top performer, trading back towards 1.3000 against the US Dollar, as the December German ZEW Survey easily beat forecasts, and the Greek debt buyback is going as scheduled, a surprise for Greece considering policymakers have consistently disappointed the past several years.
While the German ZEW Survey for December didn’t reflect any optimism over the Current Situation, the Economic Sentiment gauge came in at its first positive value and highest since May 2012. Considering that the Economic Sentiment index registered -15.7 in October, the reading of 6.9 (against a forecast of -11.5) is a very significant improvement – certainly, if growth in the Euro-zone core is expected to pick back up in late-1Q or 2Q’13, we could see the periphery’s fundamentals start to steady as well.
Certainly, with news out of Europe improving and the US fiscal cliff/slope debate at a standstill (while no progress, no regression either), assets with higher yields, like the Australian and New Zealand Dollar could remain elevated against the Japanese Yen and the US Dollar. When considering that the Federal Reserve meets tomorrow and is expected to announce another QE program – either an extension/expansion of QE3 (agency MBS) or a new QE4 (outright Treasury purchases, like QE2) – the US Dollar could take a significant beating the next few days. Globally, markets are aligning for improved risk-appetite; even Italian and Spanish bonds are rebounding.
Taking a look at European credit, bond yields have eased, especially after the Greek news, helping boost the Euro. The Italian 2-year note yield has decreased to 2.218% (-6.4-bps) while the Spanish 2-year note yield has decreased to 2.934% (-8.6-bps). Similarly, the Italian 10-year note yield has decreased to 4.724% (-8.0-bps) while the Spanish 10-year note yield has decreased to 5.459% (-6.1-bps); lower yields imply higher prices.