Daily Market Comment – ECB hikes big, euro unimpressed; stocks wobble on earnings, growth doubts

  • Euro jumps then falls on ECB’s surprise 50-bps hike as Lagarde fails to inspire confidence
  • Weak PMIs, Snap’s ad warning and rise in US jobless claims re-ignite slowdown concerns
  • Dollar firms but fallout in equities contained by sliding bond yields

ECB frontloads rate hikes but new tool troubles euro

The European Central Bank threw its rule book out the window on Thursday as policymakers defied their own forward guidance of a 25-basis-point rate hike to lift their three main lending rates by 50 bps. The move effectively marks the end of negative rates for the euro area as the deposit rate has been raised from -0.50% to 0.0% in one go.

The ECB is now signalling that policy decisions will be made on a meeting-by-meeting basis even as it warned that further normalization will be “appropriate”.

As expected, the central bank also introduced its new anti-fragmentation tool – the Transmission Protection Instrument (TPI) – aimed at keeping periphery bond yields in check.

The euro spiked up on the hawkish announcement, but it didn’t take long for the excitement to evaporate and it yo-yoed against the US dollar before settling higher on the day to reclaim the $1.02 level.

Lagarde fails to address Italy concerns

It all started to go wrong for the euro when President Lagarde suggested that the “ultimate point of arrival” as to how far policy will be tightened has merely been accelerated, not changed when speaking to reporters in her press briefing. This message was repeated by France’s Governing Council member Francois Villeroy de Galhau today, adding to the euro’s downside.

However, whilst it shouldn’t come as too much of a surprise that the Eurozone’s weaker fundamentals will prevent the ECB from raising rates as aggressively as the Fed, worries about how TPI will work are also weighing on the single currency.

Lagarde did not go into a lot of detail about what would trigger the activation of TPI, nor did she elaborate on the eligibility criteria. Despite all the hype, Lagarde has left a lot of questions unanswered about how the ECB would tackle a potential debt crisis sparked by Italy’s political turmoil. It comes after Italy’s national unity government imploded, leading Prime Minister Mario Draghi to resign and a snap election being called for September 25.

Eurozone PMIs disappoint, US PMIs awaited as yields tumble

Adding to the euro area’s gloomy outlook on Friday are much worse-than-expected flash PMI readings. Manufacturing activity declined in July for the first time in two years according to S&P Global as the cost of living crisis hit consumer spending, although input costs moderated slightly.

There’s a real danger that the Eurozone economy will contract in the third quarter and is headed for a recession as sanctions against Russia are only being stepped up and there is no sign of the war in Ukraine ending anytime soon. In response, Russia is trying to apply pressure on European governments by reducing gas flows via the Nord Stream 1 pipeline. Moscow seems to be delaying the shipment of a repaired turbine needed to return the pipeline to full capacity from Germany to the compressor station in Russia, adding to the uncertainty about future gas flows.

UK PMIs were somewhat better than expected in July and retail sales out earlier in the day beat the forecasts too. Nevertheless, the positive data could only offer marginal support to sterling, which has slipped back below $1.20.

US PMIs will be watched later in the day for any signs that growth in the world’s largest economy is also stalling. Jobless claims in America inched up again last week and have been steadily climbing since April, raising worries that the labour market is cooling. The Q2 earnings season is also indicative of this with more and more companies announcing a freeze on hiring.

The renewed jitters about slowing growth in the major economies are lifting the US dollar, with its index against a basket of currencies edging back above the 107 level today. Government bonds are benefiting too from the increased safe-haven flows, sending yields sharply lower. The 10-year US Treasury yield is close to breaking below 2.80%.

Stocks suffer a minor scare

However, the fresh slide in yields is shielding equities from a major selloff after Snapchat owner, Snap Inc, yesterday warned that income from online advertising could slump in the coming quarters as it reported worse-than-expected revenue for Q2. The company’s shares plummeted in after-hours trading and Nasdaq futures fell as other tech stocks came under pressure too.

But Nasdaq futures have since pared some of the losses and S&P 500 futures are down just 0.2% at the time of writing, while European stock markets were surprisingly upbeat.

Today’s earnings highlights will come from Twitter and Verizon when they report their results before the US market open.


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