The economic data drives the FX prices this Monday. Soft Asian manufacturing PMIs have been followed by disappointing Euro-zone and UK readings in August. France and Italy sank into the contraction zone (below 50), UK manufacturing index dropped to its lowest levels over a year. EUR and GBP remain under selling pressures before the ECB and BoE meetings due on September 4th. Given the significant drop in Euro-zone inflation expectations, we are curious to hear what the ECB President Draghi has to say in his monthly speech on Thursday. Are the long-term inflation expectations still “anchored”?
No good news out of the Euro-zone, EUR bias negative
EUR-complex underperformed its major G10 peers (except SEK) over the past week, the negative pressures remain solid as political and economic situation in the Euro-zone countries remain uncertain. Released in the morning, the final August PMI manufacturing readings were rather soft with France and Italy sinking back below 50, in the contraction zone. Moreover, German GDP contracted by 0.2% over 2Q as expected, the year-on-year growth remained stable at 0.8% (non-seasonally adjusted). The private consumption and government spending slowed, the capital investments decreased by 2.3% (vs. -1.3% exp. & 2.3% last quarter). Domestic demand grew by a tiny 0.1%, imports slowed from 2.2% to 1.6%, exports unexpectedly advanced by 0.9% (vs. 0.2% exp. & last). As Euro-zone’s growth engine falls halfway back into recession, the week started with limited EUR-appetite. Combined to last week’s squeezes in French government, the EUR sentiment remains comfortably bearish. In his speech in La Rochelle yesterday, the French Prime Minister Manuel Valls judged as “strong signal” the ECB’s latest stimulus package, yet called for more ECB action to avoid deflation in 18-nation monetary union. French President Hollande will meet ECB President Draghi today in Paris, while the ECB policymakers will meet on September 4th in Frankfurt to determine ECB’s September policy. Given the steep fall in market’s long-term inflation expectations, we believe that Mr. Draghi will likely sound dovish at his monthly press conference. According to Barclay’s, the average inflation expected over five years starting in five years dropped to 1.95%, below 2.0% closely watched by traders. In Jackson Hole, Draghi had stood ready to use “all available instruments needed to ensure price stability over the medium term”, introducing more doubts about the inflation expectations being “well anchored”! Will these developments bring more ECB action in the coming months?
According to Ta Nea, a Greek newspaper, ECB’s Coeure said that the ECB is “ready to offer additional liquidity to the banks, on condition that banks increase their credit to the real economy”. As the expectations for more ECB stimulus (we mostly talk about bond purchases through a QE program), the peripheral bond yields remain at record low levels. The 10-year Spanish yields trade at 2.19%, 10-year Italians at 2.40%, while 10-year French yields hit 1.25%. EUR/USD extended weakness to 1.3119 at the week opening and the sentiment remains strongly bearish. The key support stands at 1.3105 (September 6th 2013 low) and solid option barriers are likely to limit EUR-strength through this week, important volumes of option offers abound pre-1.3200.
EUR/GBP hit 0.78918 as negative momentum gained pace in Friday’s drop. Resistance is building above 0.79500 (21 and 50-dma stand at 0.79692 & 0.79547 respectively), large option barriers trail below 0.79500 through this week. The 3-month cross currency basis indicates uncertain and volatile preference in EUR versus GBP. The key support stands at 0.78743 (July 23th low & two-year low). We remain seller on rallies as our long-term bearish bias remains unchanged.