Markets:

Attention turned to Europe today. Headline EMU PMI’s improved slightly, triggering an uptick in German yields and EUR/USD (1.11). Moves didn’t last long though with details still disappointing and suggesting downside eco risks ahead. EUR/USD soon returned the intraday gains and went from the top of this week’s tiny range (1.1110) to the bottom (1.1066). The pair is currently changing hands at 1.1090. German yields received a second push in the back after the release of ECB Minutes. They showed that the ECB finds it extremely important to counter “the concern among some observers that the Governing Council lacked the necessary instruments to secure the convergence of inflation to its inflation aim over the medium term”. It firms the believe that the ECB is preparing a September easing package with measures including a deposit rate cut, a tiered deposit rate system, extended forward guidance and/or a fresh asset purchase programme. EMU inflation expectations (5y5y forward inflation swap) rose from 1.24% to 1.27% and also lifted German yields (profit taking on Bund long positions). The German yields curve bear steepens at the time of writing with yields 3.5 bps (2-yr) to 5.4 bps (30-yr) higher. The German 10-yr yield approached very minor first resistance at -0.61%. 10-yr yield spread changes vs Germany are broadly unchanged with Greece outperforming (-7 bps) and Ireland (+4 bps) underperforming. US yields rose by 1.3 bps to 1.7 bps, across the curve. US weekly jobless claims fell from 221k to 209k last week and remain near historically low levels. They didn’t impact trading though.

Sterling rallied today. German Chancellor Merkel yesterday already indicated that a no deal Brexit can still be avoided if a solution for the Irish backstop plan can be found within the very tight timetable of 30 days. She today gave some additional wiggle room by putting the effective deadline at the end of October. More important, French president Macron, more hawkish against the UK, added that changes might not affect the EU’s insistence on preserving the integrity of the single European market and peace and stability on the island of Ireland. We agree that these Johnson/Merkel and Johnson/Macron meetings are only tiny steps towards a breaking the deadlock, but they at least show willingness from both sides to avoid the UK crashing out. EUR/GBP tested the 0.91 support area and the decline in the pair accelerated after the break lower. It currently trades around 0.9050.

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News Headlines:

The August Markit EMU composite PMI rose from 51.5 to 51.8 in August (vs 51.2 consensus). The growth dynamics were little changed though with solid growth in services (53.4 from 53.2) making up for the ongoing manufacturing decline (47 from 46.5). July and August PMI suggest that broad EMU Q3 growth will come in at 0.1% or 0.2% of GDP. Details showed that companies are braced for a sustained period of weakness and are already showing greater reluctance to take on additional staff. On a national level, France outperformed with significant pickups in both manufacturing and services gauges. German PMI’s broadly stabilized with the discrepancy between manufacturing (43.6) and services (54.4) even bigger than in EMU. On top, new orders fell to the greatest extent in over 6 years and firms were pessimistic around the future path for activity. The risks remain therefore that Germany will fall into a technical recession in the third quarter.

Italian media report that President Mattarella gave the ruling party 5SM and opposition party PD until Monday to try to come up with a new coalition. Parties are internally divided on such link-up with sworn enemies, especially fearing a bigger electoral defeat afterwards. Former President Berlusconi’s Forza Italia said that without a centre-right government, Italy should be heading back to the polls.

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