Next report will be publish from August 24

Sunrise Headlines

  • US Equities dropped for a second consecutive day on Wednesday in a rather dull trading session. The S&P dropped by 0.69% led by health care companies. This morning, most Asian shares trade slightly lower.

  • The US economy kept growing overall, but unevenly and it actually slowed in a few regions as housing markets softened after the end of a popular tax break, the Federal Reserve said in its Beige Book.

  • The Reserve Bank of New Zealand raised interest rates by 25 basis points to 3.00%, but scaled back its plans for further increases because of weakening growth outlook for Asia and the domestic economy. The kiwi dollar weakened after the decision.

  • The ECB toughened up its lending rules yesterday, saying that from next year banks will face higher penalties if they use weaker-rated assets as collateral to borrow ECB cash.

  • Japanese retail sales rose in June by 3.2% from a year earlier due to government steps, but analysts warned gains are likely to slow later this years as the effects of such measures are expected to taper off.

  • Italy’s centre-right government secured final parliamentary approval of its €25 billion austerity package which imposes a freeze on public sector wages, cuts in salaries of senior officials and MPs and a sharp reduction in spending by regional and local authorities.

  • The International Monetary Fund finalized yesterday a new $15 billion loan agreement negotiated with Ukraine’s new government, which will plug holes in the budget of the cash-strapped country.

  • Hungary’s financial state is stable, predictable and looks secure even without IMF support, Hungarian Prime Minister Orban said as the government announced a plan to boost economic growth and create jobs. Today, Hungary will tap the market for the first time after talks with the IMF collapsed.

  • The Russian government, facing several more years of budget deficits, outlined plans to slightly loosen state control over the economy, aiming to raise as much as $29 billion by selling minority stakes in state companies.

  • Chemicals giant BASF reported this morning a forecast-beating jump in second quarter net profit and confirmed key parts of its full-year targets. Pharmaceuticals and chemicals company Bayer, on the contrary, reported an unexpected 1% decline in net profit, but confirmed its full-year outlook.

  • Today, the eco calendar contains the EC confidence indicators, German unemployment, the UK mortgage approvals and US weekly claims.


Markets

Yesterday, the economic calendar was rather thin. German CPI inflation came out slightly higher than expected, according to the first estimate. Inflation rose to 1.2% Y/Y in July (from 0.9% Y/Y), but this was mainly due to strong base effects coming from very weak food prices last year. Besides seasonal factors as the summer sales and holiday season, prices of energy and food rose in July. In the US, the focus was on the durable goods orders, a rather volatile indicator. In June, the durables dropped (by 1.0% M/M) for the second consecutive month, while an increase was expected. Part of weakness was based in the volatile nondefense aircraft component but also the less volatile durables ex-transportation showed an unexpected decline (by 0.6% M/M). On a (much) more positive note, orders and shipments for investment goods were strong, suggesting firms are quite optimistic about the outlook and are strengthening their competitiveness and production capacity. This certainly compensates for the headline weakness. However, consumers on the other hand continue to show outright pessimism, now reflected in another weak weekly ABC Consumer comfort survey.

Regarding markets, it was quite a dull, uninspiring session. Main FX crosses ended little changed and traded sideways intraday, while equities corrected moderately lower as previous gains were digested following a good run of late and as main resistances loomed. Also commodities had a pretty uneventful session. Only in the bond market, the price action was more inspiring.

Global core bonds rebounded following a previous correction that was more outspoken in German than in US bonds. The unwinding of safe haven flows that had benefitted the Bund to the detriment of peripherals was the main reason with the stress test an important driver. However, the oversold German Bund had arrived at first support level (127.60/12 or 2.79% for the 10-year yield) while the shorter end had still corrected more. So, the constellation was good for a rebound, which was by all standards tepid in the German market and without longer term significance. Weaker equities (profit taking when reaching obvious resistance) and a weaker bias in the EMU banking survey were a positive. The situation in the intra- EMU market was interesting. There was some profit taking in most government credits that had recently performed outstanding, like the Spanish bonds. However, Portuguese bonds, that had largely missed the recent rally, and Irish bonds were catching up and saw a substantial narrowing of their yield spreads with Germany across the various maturities. The Portuguese bonds were helped by a good auction (see below). The renewed spread widening later in the session, in a thin market, might also have been influenced by the ECB that announced a tightening of rules on weaker-rated collateral. While we don’t think the measures that will apply from 2011 onward will cause big problems for banks looking for ECB liquidity, it remains the case it is a negative especially for the peripheral banking sectors that at least now are still heavily dependant on ECB liquidity. After European official market closure, the Bund still profited from a strong US 5-year Note auction and the Beige Book that was cautious on the outlook, but probably less pessimistic that the headline news lines of the press agencies suggest.

The ECB July bank lending survey showed still tight conditions in the credit market. On the supply side, the development was even outright negative as the net tightening of credit conditions both for corporate and household loans increased in Q2 compared to Q1 and also compared to expectations of banks (as revealed at the moment the previous report was published in March). The factor behind this deterioration was the worsening of the banks’ own balance sheet situation, particularly regarding their liquidity position and access to wholesale funding. The latter was influenced by spillover effects of the government debt crisis that flared up in Q2. In this respect, and on the condition that the situation in the government bond market calms down (which we expect), this deterioration of the credit supply conditions is not too concerning and might be reversed in Q3 (as banks expect). The situation on the demand side showed a gradual improvement in demand for loans. While it remained still slightly negative in Q2 (but improved from Q1) regarding loans to firms, the situation turned positive for loans to households. We think that the outcome of the survey will be seen as neutral by the ECB and without effect on policy.

The ECB allotted €23.2B at its 3-month LTRO operation for which 70 banks turned up. It replaces maturing €4.8B 3-month liquidity. If one takes the LTRO together with the MRO at which the ECB allotted €190B in liquidity (versus 201B previously) yesterday, the total liquidity increased slightly, but not really significant.

Portugal sold successfully €1.28B of its 3.6% Oct. 2014 and its 4.95% Oct 2023 OT, at the upper side of its target range. The bid/covers amounted to 3.1 and 1.6 respectively. It shows that investors are ready to take Portuguese credit on board, but still more for shorter maturities, which is quite normal following a credit crisis. The German-Portuguese spreads, which had come in sharply prior to the auction narrowed somewhat more afterwards and kept most of the narrowing as other credits saw their spread widen again later in the session. In the US, the $37B 5-year Note auction went very well. The auction stopped well below the WI bid at the moment of the stop, bid/cover was very strong and the buy-side takedown solid.

The Beige Book concluded that economic activity had continued to increase since the previous book, but with some caveats. Atlanta and Chicago reported that economic activity had slowed recently, Cleveland and Kansas said that activity generally held steady, while the others that reported improved activity said the increases in activity were modest. So, cautiousness is probably the main conclusion. Some of the negative factors, like the oil spill and the expiration of the tax credit program for homebuyers, were reported as abating and the slowing is considered more as a soft patch in the recovery than a genuine slowdown that may derail the recovery. The details were not so negative. Consumer spending has been generally positive so far this summer. On the other hand, nearly all districts reported sluggish housing markets. Financial conditions were termed mixed, as most Districts reported that lending standards remained tight. Labour markets improved gradually in several Districts with temporary hiring reported on the rise.

In the US market, the rebound of Treasuries had much more vigour, but a bit suspiciously occurred late in the session. The strong 5-year Note auction should be mentioned, leading also to a strong outperformance of the belly of the curve, with some additional gains following the Beige book. The gains at the wings of the curve were very modest too. Technically, the move was interesting. The Sep Note future had dropped below the long-standing uptrendline on Tuesday, but recouped it yesterday (with a bullish engulfing pattern). So, a new short term bottom may be in place. So, while it doesn’t exactly match our fundamental view of a break higher, a return to the highs (123-24) from a technical point of view looks very well possible, but breaking it would be another matter.

Today, the eco calendar contains the US weekly claims, European Commission confidence indicators and UK mortgage approvals. In the week ended July the 24th, US initial claims are forecasted to stay broadly unchanged around 460 000 after some volatility due to less factory shutdowns. Nevertheless, the claims are still elevated which might be due to many teachers which lost their job due to state & local budgetary problems. In the euro zone, European Commission’s economic confidence is expected to show a slight improvement (from 98.7 to 99.1) in July. After the better than expected IFO, PMI’s and consumer confidence, we believe the risks are on the upside of expectations. In the UK, the mortgage approvals are expected to have dropped from 49.8K to 48.8K in June.

Regarding the bond market trading today, we think that no big moves should be expected, but the positive bias that was visible yesterday may continue. Month end extension buying is an underlying positive. The US 7-year auction may cause some cautiousness, but once it is off the table, investors may be glad that the month-end financing is done. In EMU, equities might be important with many bellwethers reporting. The results were mostly better than expected, which may be enough to offset overnight weakness in US equities. However, we don’t expect equities to make technical significant gains (break above 1113/31 S&P, 266 Eurostoxx). The initial claims are a wild card. So, overall, we expect German and US bonds broadly to keep ground, eventually gain slightly, but insignificantly today, For the intra- EMU market, the fate of the Italian BTP auction may matter. There may be some modest re-widening of the yiels spreads, which would be corrective in nature though.

On Wednesday, most markets, including the currency market, were captured by some kind of summer holiday mood. This was especially the case in Europe. The issue of the stress tests was more or less out of the way and there were no important eco data on the agenda. The ECB lending survey showed still rather tough lending conditions, but the report had no impact on global markets. The same was true for the successful Portuguese bond auction with annex spread narrowing. So, EUR/USD was seen close to the recovery high early in Europe, but there was no driver for further gains and the cross rate slipped back to the 1.3000 mark, hoping for some inspiration from the US. The headline figure of the US durable orders came out below expectations (the details weren’t that bad). Bonds and equities felt the need to react, but EUR/USD traders once again didn’t know which way to go. EUR/USD continued to oscillate near the 1.30 mark. In the Beige Book, the regional Fed districts indicated that the pace of the recovery had slowed. On the other hand, the impact of some temporary negative factors might fade going forward (cf supra). So, the picture was a bit mixed. At the time of the release of the Beige book, US equities were under some moderate downward pressure, but the effect on EUR/USD was still very limited. The pair closed the session at 1.2995. Just to illustrate the day-to-day dynamics in this cross rate, the closing levels according to Bloomberg were respectively 1.2996 and 1.2994 on Tuesday and Monday. In a broader perspective, the decline of the tradeweighted dollar is also almost coming to a halt.

Today, the German unemployment data and the EMU confidence indicators are interesting. Will the good news show on Germany persist? With the respect to the EC confidence indicators, it will also be interesting whether they will show a similar resilience as was the case for some other data series of late. Last week, the positive surprises in the PMI’s and the Ifo supported the euro. Of course, it is the exception rather than the rule for the euro to react to EMU data. In addition, the unexpected improvement might already be discounted in the currency market. So, we don’t expect too much of it. Maybe there is somewhat of an asymmetric risk incase of a poor figure. In the US, the jobless claims are on the agenda. Labour market data will be key for the Fed policy going forward. So, the claims have market moving potential. Nevertheless, the claims are the only ‘important’ US release today. We doubt that even a deviation from consensus for this data series on its own will be enough for EUR/USD traders to finally make up their mind.

Recently, the euro was in good shape, even as a clear brake above the 1.3000 is not such an easy job. From a technical point of view, the question is now whether the EUR/USD cross rate will be able to take out the 1.3095 (10 May high). A break above this level could be seen as a further symbolic scaling down of the euroskepticism that remained in place, even after the announcement of the huge rescue package during the weekend of 8/9 May. Recently, we held a tactically inspired approach as we thought that the euro had already succeeded a nice rebound (from 1.1877 to 1.30 +). In this framework we assumed that it wouldn’t be easy for EUR/USD to clear the 1.3095 resistance, especially not if there was no high profile event to trigger more euro strength and/or dollar weakness. We still do not front-run on such a break, but we are aware that the chances for a break are on the rise. So, EUR/USD longs should not be in a hurry to scale down EUR/USD exposure and can wait to see how the test of the 1.3095 resistance fares.

EUR/GBP traders were keeping an eye on the appearance of several BoE policy makers, including Governor King, before a Parliament’s Treasury Committee. However, as more or less expected, they came out with a balanced message. Governor King indicated that the debate was about the appropriate degree of stimulus, not applying the brakes. He said also that the MPC had room to use monetary policy in either direction. BoE’s Sentance repeated its divergent view that the current policy stance was extreme. However, after all, the hearing brought no big surprises going into next week’s BoE meeting. EUR/GBP showed some nervous swings during the hearing, the changes were still limited. Later in the session, EUR/GBP revisited the 0.8315 short term support area, but once again no sustained break occurred. EUR/GBP closed the session at 0.8330, little changed from the 0.8334 close on Tuesday.

This morning, the Nationwide house prices came out slightly weaker than expected at -0.5% M/M and 6.6%. Later today, the UK lending for month of June will be published. Recent UK eco data were less negative, but at least for now, we don’t see them as enough a reason for the BoE to scale down policy stimulation in the near future. We see yesterday’s BoE comments as confirming this view. So, we expect King and Co to keep a wait-and-see approach for now. In this context, we don’t see a reason for EUR/GBP to break out of its recent consolidation pattern anytime soon. In a day-to day perspective, EUR/GBP is still close to the 0.8317/18 support area. We need to move away from this level soon in order to prevent a further technical inspired downleg. At least yesterday’s BoE speak didn’t provide much ammunition for such a break.

On Wednesday, USD/JPY was not able to build out Tuesday’s gains. The pair still set a minor new high early European trading just north of the 88.00 mark. However, risk sentiment on the European and the US markets was not strong enough to keep this bid in place. The pair slipped gradually lower throughout the session. A mediocre stock market performance, a decline in US bond yields and mixed signals on the pace of the US recovery (data and Beige Book) were al good reasons to reverse a big part of Tuesday’s gains. The pair closed the session at 87.47, compared top 87.90 Tuesday.

This morning, Asian equities show mostly limited losses. Japanese retail trade data came out reasonably good, but as usual had hardly any impact on yen trading. USD/JPY is still a few ticks lower compared to yesterday’s close. However, for now the bottoming-out hypothesis is not yet rejected as the pair is still well above the recent lows. Recently we had a wait-and-see approach on this cross rate. We felt that the downside in this pair had become more difficult as the market feared BOJ action in case of a drop to the 85.00 area. However, there was no positive trigger to unlock the recent stalemate. At the end of last week/early this week there were some tentative signs of bottoming out, this is all developing at a very gradual pace. The pair probably needs a strong improvement in risk appetite or, even more, USD interest rate support to really move away from the recent lows.