Markets start the week with a risk-off tone as concerns around the Euro-zone mix with worries about global growth and weaker earnings. The focus this week will be the EU Summit which will be held on Thursday and Friday.
- Spain made a formal request for assistance from eurozone partners to help recapitalize its banking system.
- No amount mentioned, but €100bn is the figure we are expecting.
- Last week’s audit showed Spain may need €65bn.
- Spain’s 10-year yield rises today (as does Italy’s).
- Equities under pressure to start the week as global growth fears, worries about corporate earnings, and skepticism that Europeans will provide comprehensive solution at their summit weigh on risk sentiment.
Key Developments Last Week
- Poor global macro data – China’s manufacturing PMI, Germany’s Manufacturing PMI, ZEW Economic Sentiment and IFO, US Philly Fed index point to weakness in the world’s industrial powers and softening demand and trade.
- Market anticipation of FOMC providing robust stimulus dashed – though Fed extends Operation Twist and leaves the door open for a move in August if (labor) data deteriorates further.
- Spain pays high interest rates at auctions, but 10-year yield falls back to 6.50% as expectation that EFSF/ESM may be used to buy bond on secondary market calms periphery.
Theme of the Market:
- While weak global macro data has caused commodities and equities to weaken, there are 2 main supports still for sentiment.
- Central banks may co-ordinate intervention – ECB to lower rates, BOE to restart QE, Fed to take more action (6 weeks before next meeting).
- That eurozone government have the ability “to introduce measures to share risks more effectively”.
- While we have seen some improvement in Spanish yields last week, that was completely fueled by anticipation that EFSF/ESM will be used to buy bonds in secondary market.
- Therefore, sentiment rests on the shoulders of Angela Merkel and whether Germany goes along with the demands/requests of Italy, Spain, France.
- A failure this week to craft a blueprint for a tighter fiscal and banking union would trigger further speculative attacks on Europe’s troubled economies.
- An EU blueprint for the future of the euro is to call for member states to surrender powers to run their banks, give up some control over national budgets and explore pooling the risk of underwriting deposits and raising debt.
- The 10 page draft is written by EU council president Herman Van Rompuy, EC president José Manuel Barroso, ECB president Mario Draghi, and Jean-Claude Juncker, chair of the eurogroup of eurozone finance ministers.
- One key factor in discussions has been a German demand that tough central controls on national spending and taxation are included as a condition to discussing options to pool debt, such as eurobonds, eurobills, or a eurozone redemption fund.
- The draft makes clear that this “qualitative move to fiscal union” is likely to require EU treaty changes.
- More rapid progress is envisaged in the first section of draft, setting out an “integrated financial framework”, or financial union open to all 27 member states.
- It includes a common EU rulebook for banks, the creation of a single supervisor and common deposit insurance and bank resolution fund. Britain and others outside the euro area could opt out of sharing risk or sovereignty.
- US – new home sales (today), CB consumer confidence (Tue), durable goods (Wed), final GDP (Thu), Chicago PMI and personal income and spending (Fri).
- UK – public sector net borrowing, Inflation Report Hearings (Tue), mortgage approvals & CBI realized sales (Wed), BOE credit conditions survey, current account, housing prices (Thu), BOE financial stability report & Mervyn King speaking (Fri).
- EUR – German employment change (Thu), German retail sales (Fri), money supply & private loans (Fri)
- Japan – retail sales (Wed), household spending, inflation, unemployment rate, industrial production (Thu).
- AUS – new home sales (Wed), private sector credit (Thu).
- NZ – trade balance (Tue), business confidence (Wed).
- CAN – GDP & producer prices (Fri).
Factors for Key Currencies:
- Will policymakers give enough to boost market sentiment?
- Traders have become wary of such summits as the trend has been for markets to rally into such a gathering as hopes for a tangible solution are raised, only for a lack of substantive progress to deliver disappointment.
- Data from Germany shows economy catching the flu from rest of Europe.
- Spain paying unsustainable levels to auction off debt.
- Next steps in Greece still uncertain.
- Market pricing in an ECB rate cut?
- FOMC held back from another round of QE-type stimulus.
- Global growth fears & weaker commodities and equities create flight to safety demand for USD.
- Economic data continues to undershoot expectations – latest example being the plunge in Philly Fed manufacturing index.
- The weaker the data, the more chance that Fed will act.
- With commodity currencies falling as a result of weaker commodity/equity prices, and Europe caught in debt crisis, GBP may be best of the “higher yielders” and therefore resilient.
- Softening inflation has increased calls for more QE from BOE.
- If economic data remains poor.
- Australian data has improved of late (1Q GDP, employment data, trade data) giving it a strong run against CAD.
- Lower interest rates should help consumer confidence/spending, and housing market.
- Chinese (and global) manufacturing data undermines growth concerns hurting high beta currencies like AUD.
- RBA cuts rates, narrowing rate differential advantage.
- No outright mention of rate cut by RBNZ in its policy meeting.
- Stronger than expected GDP data last week.
- If market sentiment continues to be weak, sensitive risk currencies will continue to be pressured.
- BOC kept its slightly hawkish tone in previous statement.
- Will policymakers (G-20) or central bank intervention (FOMC) help risk-sensitive currencies?
- Softening in US data.
- Worries about global trade.
- Falling oil prices.
- Worry over global growth, Euro-zone crisis can boost safe haven demand for JPY.
- Further jaw-boning about JPY strength by officials.