Sentiment Mixed As A Jittery Europe Looks Forward To Draghi

It has been another quiet overnight session, with macro data decidedly mixed and "adjusted", because while the key German December Industrial Production number came in sequentially at 0.3% on expectations of a 0.2% rise, it fell more than expected on an unadjusted Y/Y basis, dropping 1.1%, on expectations of just a 0.5% drop. On the other hand, Spain's industrial output not unexpectedly stagnated for a 16th consecutive month, plunging by 6.9% in December in line with expectations, and sliding by a whopping 8.5% Y/Y. In bond auction news, Spain sold some €4.61 billion in 2015, 2018 and 2029 bonds, all pricing with yields substantially higher than recent January auctions, which in turn sent the Spanish 10 Year to 2 month highs of 5.52% after the auction, however it has since regained most of the losses.

Elsewhere, Mark Carney - the new BOE head - was speaking in parliament, saying that central banks should be flexible in meeting inflation targets and that any change to monetary regimes should not be made lightly. "It’s entirely possible, in fact probable, that the the current stance of policy is consistent with the economy achieving escape velocity" he added. And speaking of the BOE, it came out moments ago with its latest rate decision which as was expected by all, was unchanged at 0.5%, and no addition to its GBP375 billion QE. We expect that to change in 3-4 months when Goldman's Carney is fully embedded into the Bank.

In under an hour it will be the ECB's turn to announce that despite the recent surge in the EURUSD, nothing will change in the ECB's outlook as Draghi really has no options: since the natural trendline of the EURUSD absent ECB intervention is much lower, should the central bank actively manage the currency to a level where it would otherwise promptly be, contracting exports outside the Eurozone would be the last of Draghi's worries as redenomination risk comes surging back.

But perhaps the most important driver of risk, for the second day in a row now, has been the simple fact that Europe has opened. As the chart below shows, the 3 am Eastern, or 9 am European open ramp in the EURUSD is now the major driver of prevailing EURUSD, and thus ES levels. As it turns out no actual fundamentals are needed to move the EURUSD, but a simple on/off switch of the overall market.

Snapshot summary of where Europe is currently:

  • Spanish 10Y yield down 1bp to 5.43%
  • Italian 10Y yield down 3bps to 4.56%
  • U.K. 10Y yield up 3bps to 2.13%
  • German 10Y yield up 2bps to 1.65%
  • Bund future down 0.15% to 142.33
  • BTP future down 0.09% to 110.71
  • EUR/USD up 0.33% to $1.3568
  • Dollar Index down 0.2% to 79.56
  • Sterling spot up 0.4% to $1.5724
  • 1Y euro cross currency basis swap little changed at -20bps
  • Stoxx 600 up 0.33% to 285.46

A more comprehensive recap of events as usual from DB's Jim Reid:

Yesterday the DAX dipped 1.09% and is now down -0.41% YTD. The CAC moved down to flat on the year yesterday, marginally ahead of the Spanish IBEX (-1.36% YTD) which has been down in 2013 for a few days now. Spanish 10- year yields are also 18bp higher for the year and the Italian equivalent yesterday also went above its 2013 starting point.

In European Credit iTraxx Main is flattish YTD, Senior Financials are 15bps wider and although Xover is tighter YTD after a very strong post fiscal cliff early Jan rally, it’s now 37bp off the tights. Non-financial Euro Cash HY is now also wider in spread terms in 2013. Elsewhere in fixed income 10 year Treasuries are 21bp higher on the year and many parts of the EM universe has been struggling in both FI and equities.

So 2013 feels stronger probably because the high-profile US market is leading the way but elsewhere the picture is more mixed. As we discussed in our outlook and here in recent days, we think February will be a tougher environment as the Italian elections near. The fear was always that the pro-reform parties would not be well clear by the time the poll black-out starts on Saturday. Well, these fears were amplified yesterday as polls showed that Berlusconi has cut the lead of centre-left frontrunner Pier Luigi Bersani to just 3.7%, or within the poll’s margin of error of 4%. The same poll had Bersani leading by 14% on January 2nd. Watch out for the latest polls released over the next couple of days.

We should be clear that it’s still most likely that the election will present markets with a pro-reform outcome but we think it’s unlikely the markets will want to be too long risk before there is firmer evidence of such an outcome.

So there was broad weakness across yesterday’s session with the Stoxx600 closing 0.36% lower led by weakness in the CAC (-1.40%) and DAX (-1.09%). It was an up-and-down day in credit markets marked by wide trading ranges in Europe Main and Xover but both ended the day relatively unchanged at 1-2bp wider. Across the Atlantic, both the Dow and the S&P 500 staged an afternoon rally to close +0.05%. In terms of earnings, the consistent theme of US earnings outperformance continued yesterday with 79% of 24 S&P 500 companies beating EPS and 83% of them outperforming revenue estimates. This compared with just 62% EPS beats and 46% revenue beats for Stoxx600 constituents yesterday.

Now moving on to previewing today’s ECB and BoE meetings, there are no economists polled on Bloomberg that are expecting any changes in rates or policy from either central bank. With that in mind, perhaps the more interesting  element will come from the central bank chiefs themselves. President Draghi’s press conference at 1:30pm London time will be closely watched in light of the softer ECB Bank Lending Survey released last week. Draghi may also comment on  the recent concerns around the euro’s strength and the impact of recent LTRO repayments from European banks.

In the UK, BoE governor-in-waiting Mark Carney will take questions from the Treasury Select Committee at 9:45am ahead of the BoE announcement at midday. The Committee has said it will be questioning Carney about the efficacy of monetary policy tools and whether the existing framework is appropriate for the UK after a prolonged period of anaemic  growth.

Turning to Asian markets, most equity bourses are trading with a risk off tone led by losses on the Nikkei (--0.89%) and Hang Seng (-0.37%) while the ASX200 (+0.3%) closed with a gain. Ahead of the Chinese New Year break, newswires are reporting that the PBoC has injected a record $138bn into the banking system via reverse repos this week. The Shanghai Composite (-1.3%) is poised for its first fall in almost two weeks though after the PBoC’s fourth quarter monetary policy report published on Wednesday which hinted at the central bank’s concern that inflation risks will increase this year. The report also said that joint policy easing by other nations may push up commodity prices. Local press also reported that China may slow approval for new homes in some cities in the first half of the year. Elsewhere, the USDJPY (-0.2%) is consolidating around the 93.5 level. Japanese PM Abe defended his  economic policy by saying that his push for monetary easing is about overcoming deflation rather than competitive currency devaluation. Japan’s finance minister also defended the government’s policy saying that only Germany is criticising Japan on recent yen moves.

Looking at the day’s calendar, industrial production numbers for December are due from Spain and Germany. In the US, weekly jobless claims and consumer credit numbers are the main items of the data docket. Events wise the two-day EU Leaders Summit kicks off in Brussels today but all eyes will be on Draghi and Carney today.


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