EUR/USD Remains Vulnerable to the Downside

Markets

More ECB quotes hit the wires yesterday. But hawkish twists from the likes of Kazimir (rate-cut debate now is premature) got less attention. Markets instead singled out heavyweight Villeroy over the weekend effectively turning every meeting into a live one. VP de Guindos said inflation is moving positively and risks are tilted to the downside. Centeno from Portugal later added that the ECB should cut sooner rather than later. German bunds outperformed Treasuries by slipping between 4.4-7.2 bps at the start of the week. US Treasuries followed Bunds higher and even caught up with them later. US yields dropped up to 6.5 bps with the belly of the curve outperforming the wings. US Treasury in late dealings announced a reduction in its quarterly borrowing estimate to $760bn (assuming an end-of-March $750bn cash balance). This compares to the $816bn projected in October. This unexpected cut followed projections of further unspecified “higher net fiscal flows” and a higher beginning of quarter cash balance. Issuance details will be published on Wednesday. ECB talk pressured EUR/USD and brought the 1.0793 support area (50% retracement on the 2023Q4 rally) close by. That did what it’s supposed to do with the abrupt drop in US yields and a constructive risk sentiment (likes of the S&P500 hit new record highs again) providing EUR/USD additional oxygen. The pair eventually closed at 1.0833, down from 1.0858 at the open. Sterling shrugged off Friday’s softish session and closed at the strongest level since August last year against the euro (EUR/GBP 0.852) even as Gilt yields dropped more from an absolute point of view (>8 bps). In commodity markets, oil prices stood out. Brent traded just shy of $85/b at the open as the Middle East/Red Sea conflict is increasingly leaving marks. While gains evaporated later, oil still closed at the highest level since end-November. Tensions in the region are running higher again. The US is mulling a tough enough response to a deadly attack in Jordan by Iran-backed militants over the weekend.

The economic calendar heats up from today on. The US publishes its Conference Board consumer confidence, which is projected to improve to the highest since December 2021. Europe is at the center of attention though. Q4 GDP numbers are published with the European economy seen having contracted 0.1% q/q after shrinking similarly in Q3. The French economy in the meantime as expected stagnated. The first member states publish January inflation figures as well. These include Belgium and Spain ahead of France, Germany and Portugal tomorrow. In the current market mindset we’ll probably get a larger reaction to downside surprises. Euro area money markets do already price in a 25 bps cut at every 2024 meeting from April on, however. First support in the German 10-y yield is located at 2.16%. EUR/USD remains vulnerable to the downside. After 1.0793, 1.0724 (December correction low) and 1.0712 (61.8% retracement) pops up as the next reference.

News & Views

Reserve Bank of New Zealand chief economist Conway pushed back against the global trend of fast and aggressive policy rate cut cycles which also spilled the New Zealand money markets. They currently discount a 25 bps rate cut by July whereas the RBNZ as recently as November suggested to keep policy rates unchanged at 5.5% through 2024. Markets bet that weaker activity data in Q3 and Q4 will be a trigger for the RBNZ to move faster but Conway pointed out recent (downward) GDP revisions don’t necessarily mean that capacity pressures in the economy are much lower than previously assumed. On top, they’re mostly down to weaker government spending. Conway downplayed the recent Q4 headline inflation miss by stressing stickier non-tradeables inflation which is a long way from 2%. To sum up, Conway believes that monetary policy is working, with the economy and inflation falling, but the RBNZ has a way to go to get inflation back to the target midpoint. The kiwi dollar profited with NZD/USD testing first resistance at 0.6149.

British shop prices rose at the slowest annual pace since May 2022 this month (2.9% Y/Y from 4.3% Y/Y in December). Heavier discounting of goods in January sales compared with January 2023 offer part of the explanation. Non-food prices rose by 1.3% Y/Y (least since Feb 2022) while food prices increased by 6.1% Y/Y (lowest since June 2022). Lower wholesale costs are finally allowing supermarkets to cut the price of some goods though consumer demand remains fragile.