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Markets

European and US yields tanked on Friday after PMIs suggested the economy on both continents is contracting. Those market moves happened against the backdrop of the ECB ending an era of negative rates by a 50 bps hike on Thursday and the Fed on track to deliver another massive-sized 75 bps hike on Wednesday. The economic calendar was rather empty at the start of this week though and it allowed core bond yields to lick their wounds. Data was confined to the German Ifo indicator undershooting analysts’ expectations. The headline number came in at 88.6 vs 90.1 expected, with the decline mainly pushed by the expectations component falling more than 5 points to 80.3. It was the lowest reading since June 2020 and confirmed the bad-news-show that the PMIs brought last week. As such the data didn’t really affect markets even if they were below consensus. An interview with ECB’s Kazaks instead helped German yields bottom out a tad. He said that the central bank may not be done with big interest rate hikes and favours another such move in September. Visco was a bit more balanced in a similar Bloomberg interview but even the Italian ECB governor didn’t express opposition to another 50 bps move. Money markets seem to agree, still discounting a high probability of a 50 bps step in September. The Bund yield curve steepened with changes ranging from 2.8 bps in the 5y to 3.5 bps for the 30y. Support in the 10y yield at around 1.03% survives for the time being. Peripheral spreads narrow with Greece (-19 bps) outperforming peers. Italian spreads trade unchanged. US yields recover from the double end-of-week whammy. Increases vary between 4.2 bps (2y) and 7.9 bps (30y) in a more or less neutral risk setting.

Momentum for the dollar is fading somewhat further. The trade-weighted variant (DXY) edged south to 106.34. EUR/USD, helped by Kazaks’ comments as well, eked out a small gain to 1.024. The Japanese yen is under general selling pressure, losing both against the USD (136.56) and the euro (EUR/JPY trying to recoup the 140 barrier). UK CBI data was mixed today, with total manufacturing orders easing more than expected from 18 to 8 on faltering export but business optimism recovering from the lowest level since April 2020 (from -34 to -21). Average selling prices expected for the next three months continued to ease from 58 to 48. Sterling is overall better bid. EUR/GBP loses the 0.85 area again (0.848). Cable (GBP/USD 1.207) is trying to leave the 1.20 zone behind.
 
News Headlines

The composite economic sentiment indicator of the Czech Republic deteriorated further in July easing 2.6 ppts to 95.7. The decline was both due to weaker consumer and business confidence. Consumer confidence dropped the fifth consecutive month with the index reaching the second lowest reading since the start of the series in 2003 (73.6). Business confidence also worsened with confidence in the Industry falling from to 98.9 (from 106.1). Still, confidence was at the same level Y/Y. Entrepreneurs saw the lack of materials (39% of respondents), the lack of employees (19%) and insufficient demand (15%) as the main barriers to production growth. Capacity utilization in manufacturing rose slightly from Q1 to reach 83.2%, but remains significantly lower in a Y/Y perspective. In other the parts of the economy, confidence in trade eased slightly while construction and services saw a limited improvement. Czech ST yields since last week gradually eased of cycle peak levels as markets pondered further (modest/gradual) CNB rate hikes. EUR/CZK trades little changed in the 24.53 area.

Elsewhere in the region business confidence in Hungary showed a similar picture, easing to 2.0 from 3.7. Consumer confidence fell to -41.9 from -39.4, but is holding north of the 2020 corona low. Hungarian wage growth slowed slightly in May from 15.2% Y/Y to 14,9%. Lower core yields and a better sentiment on the country after a more decisive MNB approach recently gradually helped the forint to rebound back below EUR/HUF 400 (currently 396.25).

The financial market is moving slightly against the main news flow, showing signs of recovery in demand for risky assets while data is getting worse.

According to the latest Ifo report, business sentiment in Germany is falling harder than expected, but that is not stopping euro buying in European trading on Monday. The same can be said for purchases of European equities, which are also rising on Monday.

The Ifo reports a drop in the business conditions index to 88.6 in July from 92.2 a month earlier. The index was below the current values for four months in 2020, and before that, from October 2008 to July 2009. These have been the most challenging times for the German economy with high uncertainty and credit market conditions.

Extremely low expectations are pulling the indicator down. The respective Ifo index is close to the extremes, seems in a financial crisis and is only a couple of steps away from the lows of the pandemic.

The markets are probably starting to speculate that too much negativity is already priced in. So, the authorities and the central bank might begin to slow down the pace of tightening the screws.

The US debt market is pricing in more and more chances of a recession, and politicians are shifting the emphasis away from the word recession, pointing out that two consecutive quarters of GDP decline should not automatically be called a recession.

This is reminiscent of the ‘temporary’ inflation story a year earlier when politicians softened the agenda by giving events other definitions. This temporarily relieved markets but contributed to an accumulation of alarming trends. As a result, central banks now must do more to fight inflation than it took them to start earlier.

Good or bad in the long run, EURUSD is now enjoying solid buying on the decline to the 1.0200 area, although not failing on attempts to climb above 1.0270 since last week. We will only get a meaningful bullish victory signal when EURUSD rises above 1.0350. Until then, we can only talk about a technical correction after oversold conditions.

The German DAX40 is buying back from the 13000 level, but it gets too heavy when it rises above 13400, where the 50-day moving average is now running.

The dollar index came under pressure on fresh risk mode and weighed by recession fears amid Fed’s aggressive rate hike path that threatens of further slowdown of the economy.

Fresh bears pressure last Friday’s two-week low (105.97) on renewed probe through pivotal Fibo support at 106.13 (38.2% retracement of 103.40/109.12 ascend) which repeatedly contained attacks last week.

Daily techs are weakening as 10/20DMA’s turned to bearish setup and south-heading 14-d momentum is at the border of the negative territory, while last week’s bearish close formed a reversal pattern on weekly chart.

Firm break of 106.13 pivot would generate fresh bearish signal for dip towards next significant supports at 105.21/104.97 (50% retracement/trendline support).

Conversely, repeated failure at 106.13 would keep the price action within existing congestion and await for stronger signals from Fed decision and US GDP data.

Res: 106.50; 106.74; 107.18; 107.92.
Sup: 105.97; 105.54; 105.21; 104.97.

The euro is in positive territory at the start of the week. In the North American session, EUR/USD is trading at 1.0245, up 0.30%.

German business confidence sinks

The US dollar lost some of its lustre last week and the euro took advantage. EUR/USD posted its first winning week in a month and pulled some distance away from the parity line.

The euro has posted gains today but there was some alarming data out of Germany. Ifo Business Sentiment dropped to 88.6 in June, down sharply from 92.2 in May and shy of the consensus estimate of 90.2. The reading marked the lowest level in more than two years and was accompanied by an unusually grim message from the head of the Ifo Institute. Klaus Wohlrabe said that a recession in Germany was “knocking on the door” due to high energy prices and the possibility of gas shortages faced by Germany.

The Nord Stream 1 pipeline opened on Thursday as scheduled after being shut for maintenance but only at about 40% capacity, which was the case before it shut down.  At that level, Germany may need to ration gas in order to reach its target of 90% storage capacity before winter sets in. The EU has suggested that member countries scale back their gas needs by 15% starting August 1st, but already some members are pushing back and demanding exemptions, making it uncertain if this voluntary plan will get off the ground. The EU is clearly worried that Russia will weaponise its energy exports to Europe, which has implemented sanctions against Moscow due to the invasion of Ukraine. With each member state having to worry about its own citizens having sufficient gas in the winter, we could see cracks appear in the EU’s attempt to have a unified stance against Russia.

EUR/USD Technical

• EUR/USD continues to test support at 1.0191.  The next support level is 1.0105
• There is resistance at 1.0304 and 1.0390

Daily Pivots: (S1) 135.11; (P) 136.54; (R1) 137.50; More...

Intraday bias in USD/JPY stays neutral at this point. On the downside, firm break of 134.73 will confirm short term topping, on bearish divergence condition in 4 hour and daily MACD. Deeper fall would be seen through 55 day EMA to 126.35/131.34 support zone. On the upside, break of 139.37 will resume larger up trend.

In the bigger picture, current rally is seen as part of the long term up trend from 75.56 (2011 low). Next target is 100% projection of 75.56 (2011 low) to 125.85 (2015 high) from 98.97 at 149.26, which is close to 147.68 (1998 high). This will remain the favored case as long as 126.35 support holds.

Daily Pivots: (S1) 0.9575; (P) 0.9640; (R1) 0.9679; More...

Outlook in USD/CHF is unchanged and intraday bias stays on the downside. Fall from 0.9884 is seen as a falling leg of the consolidation from 1.0063. Deeper decline would be seen to 0.9493 support. On the upside, though, above 0.9738 minor resistance will turn bias back to the upside for 0.9884 resistance.

In the bigger picture, medium term up trend from 0.8756 (2021 low) is still in progress. On resumption, next target is 1.0342 (2016 high). Sustained break there will resume long term up trend from 0.7065 (2011 low). This will remain the favored case as long as 0.9471 resistance turned support holds.

Daily Pivots: (S1) 1.0146; (P) 1.0201; (R1) 1.0271; More...

Intraday bias in EUR/USD remains neutral as range trading continues. Further rise is in favor as long as 1.0118 minor support holds. Above 1.0277 minor resistance will target 1.0348 support turned resistance. Sustained break there will bring stronger rebound back to channel resistance (now at 1.0493). On the downside, below 1.0118 will bring retest of 0.9951 low instead.

In the bigger picture, down trend from 1.6039 (2008 high) is still in progress. Next target is 100% projection of 1.3993 to 1.0339 from 1.2348 at 0.8694. In any case, outlook will stay bearish as long as 1.0773 resistance holds, in case of strong rebound.

Daily Pivots: (S1) 1.1929; (P) 1.1996; (R1) 1.2076; More...

GBP/USD's break of 1.2055 minor resistance confirms short term bottoming at 1.1759, on bullish convergence condition in 4 hour MACD. Intraday bias is back on the upside for 55 day EMA (now at 1.2258). Sustained trading above there will pave the way to 1.2405 resistance and above. On the downside, below 1.1888 minor support will bring retest of 1.1759 low instead.

In the bigger picture, fall from 1.4248 (2018 high) could be a leg inside the pattern from 1.1409 (2020 low), or resuming the longer term down trend. Deeper decline is expected as long as 1.2666 resistance holds. Next target is 1.1409 low. However, firm break of 1.2666 will bring stronger rise back to 55 week EMA (now at 1.2986).

Overall sentiment appears to be positive in very quiet trading today. Major European indexes are trading higher while US and Germany benchmark yields are recovering mildly. Aussie is leading commodity currencies higher, as well as Sterling. Yen is currently the weaker one, followed by Swiss Franc and Dollar. Euro is mixed despite poor Germany business climate data.

Technically, GBP/USD's break of 1.2055 minor resistance suggests that 1.1759 is already a short term bottom. Rebound from there should extend to have a take on 55 day EMA (now at 1.2258). Attention will now be firstly on 0.8456 minor support in EUR/GBP and 165.13 minor resistance in GBP/JPY. Break of these levels will indicate underlying strength in the Pound. Secondly, 1.0277 minor resistance in EUR/USD, 0.6976 temporary top in AUD/USD,. and 1.2821 temporary low in USD/CAD will be monitored. Break will indicate deeper near term selloff in Dollar. But of course, both scenarios could happen at the same time.

In Europe, at the time of writing, FTSE is up 0.24%. DAX is up 0.41%. CAC is up 0.56%. Germany 10-year yield is up 0.0498 at 1.076. Earlier in Asia, Nikkei dropped -0.77%. Hong Kong HSI dropped -0.22%. China Shanghai SSE dropped -0.60%. Japan 10-year JGB yield dropped -0.0077 to 0.206.

Germany Ifo dropped to 88.6, on the cusp of recession

Germany Ifo Business Climate Dropped from 92.2 to 88.6 in July, below expectation of 90.5. That's the lowest level since June 2020. Current Assessment index dropped from 99.4 to 97.7, below expectation of 98.2. Expectations index dropped from 85.5 to 80.3, below expectation of 83.0.

By sector, manufacturing dropped from 0 to -7.1. Services dropped from 10.9 to 0.9. Trade dropped from -14.7 to -21.6. Construction dropped from -9.7 to -17.0.

Ifo said: "Companies are expecting business to become much more difficult in the coming months. They were also less satisfied with their current situation. Higher energy prices and the threat of a gas shortage are weighing on the economy. Germany is on the cusp of a recession."

ECB Kazaks: September rate hike needs to be quite significant

ECB Governing Council member Martins Kazaks said that even after last week's 50bps hike, stronger rate hikes may not be over.

"I would not say that this was the only front-loading," Kazaks said. "I would say that the rate increase in September also needs to be quite significant."

Nevertheless, he admitted that uncertainty is clouding the plans for later moves.

GBP/USD Mid-Day Outlook

Daily Pivots: (S1) 1.1929; (P) 1.1996; (R1) 1.2076; More...

GBP/USD's break of 1.2055 minor resistance confirms short term bottoming at 1.1759, on bullish convergence condition in 4 hour MACD. Intraday bias is back on the upside for 55 day EMA (now at 1.2258). Sustained trading above there will pave the way to 1.2405 resistance and above. On the downside, below 1.1888 minor support will bring retest of 1.1759 low instead.

In the bigger picture, fall from 1.4248 (2018 high) could be a leg inside the pattern from 1.1409 (2020 low), or resuming the longer term down trend. Deeper decline is expected as long as 1.2666 resistance holds. Next target is 1.1409 low. However, firm break of 1.2666 will bring stronger rise back to 55 week EMA (now at 1.2986).

Economic Indicators Update

A quiet start to what will otherwise be a lively week in financial markets with particular focus on the US as the Fed meets Wednesday and big tech report earnings.

Stock markets are modestly in the green, with a fair amount of straw clutching at play once more. Earnings not being as bad as feared, the Fed only hiking by 75 basis points and China putting together a plan in the hope of averting the next wave of the property crisis is among the reasons being given for stock markets rising. It all seems a bit desperate.

Don't get me wrong, we need to take the small wins but none of the above scream recovery to me. Stock markets can't fall forever but the latest bear-market rally seems to be being driven by as much finger crossing as the previous ones. I think there may be a few more nasty surprises that will test the foundations of the latest market bottom.

Those foundations could be rocked over the next few days if things don't go to plan. I expect the Fed will not hit the panic button yet and hike by 75 basis points again which still represents a very aggressive tightening path this year. But they may signal that another is possible in September, with markets currently having that as a coin toss.

Whether that will be enough to send equity markets into another spiral I'm not sure. It could certainly dampen sentiment, to what extent may depend on what Microsoft, Alphabet and Meta have to say, among others. I'm not sure sentiment can take the combination of disappointing earnings and a more aggressive Fed.

So we should all enjoy what is shaping up to be a relatively calm start to the week. The next few days are going to be full on and by the end of the week, we could have a better idea of whether the US is heading for recession, as appears to be the case here in Europe.

Oil holds below $100 ahead of the Fed

I'm sure oil traders have their sights set on many of the same events this week, as they try to better grasp the economic threat facing the US and other countries around the world. A recession is the primary downside risk for crude prices and it's all that's keeping them below $100 in the short term.

A faster path of Fed tightening and disappointing earnings reports from the US this week could trigger further weakness in the oil market although I am sceptical about the scale of the downside risk. The tightness of the oil market cannot be ignored even as recession odds rise. A sustainable break below $90 still looks like a big ask and if it does materialise, it will be a bit of a double-edged sword.

Gold recovering but faces big test

Gold is continuing to enjoy a recovery and is set for the third day of gains as yields remain well off their highs. The US 10-year is not far from three-month lows, with 2.75% looking a potentially important level as this is where it has repeatedly rebounded higher from in that time.

That will be interesting to gold traders as it could suggest the recovery is already on borrowed time or is about to take off. We may have to wait for the Fed on Wednesday to see which of the two it's going to be with the recessionary implications of its actions key to the outcome.

Make or break moment?

I can understand why some may be getting excited by the price action we're seeing in bitcoin over the last couple of weeks. It's come from trading below $20,000 to hit a six-week high and now the pullback of recent days has been very mild. That in the short term is arguably a bullish signal but it's still too early to say whether it will have legs. And as is the case with other assets, the Fed could make or break the recovery.