Who trusts this bounce?

Summary

European leading indicators have perked up and investors are following suit after a punishing week.

The reflex

Set for the worst week in three months, Europe’s bounce looks more reflexive than committed. Another tell-tale tumble of the cars and parts sector reveals continuing wariness on the next likely sphere to be impacted by deteriorating trade relations. Spanish and Italian bank shares lead that sector higher. The hunt is on for strong financial services candidates in those regions that could benefit from the rise in global real rates having been indiscriminately dragged lower over the last month. A favourable reversion of economic activity in Europe following the stream of weak prints over the last few months also backs the logic there may be pockets of undervaluation. Additionally, U.S. lenders acing the Fed’s latest stress test, aids select European financials with a U.S. presence join the rotation.

OPEC eyed

European investor sentiment is not expected to get to ahead of events on Friday though. This is the day the European Union’s retaliatory tariffs on $3.27bn of U.S. goods come into force. Whilst flagged weeks ago, the possibility of official U.S. reaction, even if just an incendiary tweet from U.S. President Donald Trump, remains. More importantly as OPEC’s meeting kicks off proper, ahead of joint discussions with producers outside of the group, details and plans for implementation of the widely expected agreement to raise output will be scrutinised. The most speculated outcome is a combination of decreased over-compliance and a phased production increase that may in total amount to a rise of 1 million barrels per day. The immediate impact on oil prices would be more moderate in that case than if a larger or more outright production rise prevails.

Differential strokes

Friday’s PMI data for the region also helps the euro find a floor above $1.1650, last at $1.1642, still 6% lower since April. The rate differential with the U.S. and, particularly after Thursday’s Bank of England statement, should keep the pause in the single currency’s decline short-lived. The spread between U.S. Treasurys and benchmark bunds had widened 12 basis points in 13 days by Thursday and approached the widest since late 1988, suggesting higher costs for still structurally long speculators. Against the dollar, the euro was reversing 22 pips from an hourly high seen in the wake of the ECB’s longer than expected rates timeline. Likewise, the BoE also remains pivotal for sterling, though indirectly. Governor Mark Carney Studiously avoided any further mention of monetary policy in his Mansion House speech on Thursday night. This allows cable on Friday to pierce $1.33, a clear marker that bulls had held back from even during the post-BoE rip. As exhaustion becomes an issue, retaking ground above moving averages, particularly the 21-day exponential MA at $1.3331, may extend the move.

Canadian prices and U.S. manufacturing

Canadian inflation may continue to show traces of the pause in growth in the first quarter.  NAFTA talks are stalled and U.S. tariffs on steel and aluminium exports came into force on 1st June. The Canadian dollar bounced on Thursday at $1.3281, an almost one-year low, echoing a move seen around a year ago at exactly at the same spot– albeit after a far less protracted sell-off. The sensitivity of the area means it’s likely to be targeted in the event of disappointment in this afternoon’s CPI releases. Markit’s PMI cycle crosses the border ton the U.S. with a manufacturing gauge this afternoon. The ISM’s version tends to have more market impact, but after soft Thursday’s Philadelphia indices – which again some observers linked to weakening trade sentiment –  a weaker print than the 56.5 one consensus sees could pressure stocks and the dollar again.