Post date: 29/10/2018 11:00
The global flight from risk continued last week. Equity markets fell sharply, and the significant fall in US Treasury yields that we have seen since las month highs is providing little support to global risk sentiment for now. Economic data appears to have taken a soft turn lately; in particular, the Eurozone PMIO indices of economic activity tumbled unexpectedly, further damaging market sentiment. This time the dollar behaved as a risk haven amid investor nervousness, and it rose against every G10 currency save the Japanese Yen.
This week, Eurozone inflation on Wednesday and the US monthly payroll report for October will be the main macroeconomic news for FX markets. In addition, currency traders will keep one eye on the developments in risk markets, and the headlines surrounding the Italian budget conflict and the widening spreads between Italian debt and that of the rest of the Eurozone.
Sterling took the risk sell off particularly badly last week. In addition to the general dollar rally, leaks that the UK cabinet was deadlocked over what concessions to make to the EU in order to restart the deadlocked Brexit negotiations spooked markets, and the Pound was the worst performing G10 currency last week. Sterling looks to us increasingly oversold, however. As we go into the Bank of England meeting on Thursday, even a mildly hawkish tone on the communications from the MPC could trigger a significant rally, particularly if risk sentiment worldwide stabilizes this week.
The disappointing PMI business activities data adds to the worries generated by the previous month downward surprise in Eurozone inflation. However, the ECB remains so far unfazed by the weak data. President Draghi in particular made it clear at the ECB October meeting last week that he says the weakness as temporary, and sees no reason to change the ECB stance yet. Regardless, the Euro has not been helped by either the data or the atmosphere of risk aversion, and has broken out of the recent range to the downside against the US dollar.
In this context, the flash Eurozone inflation release Wednesday takes on additional importance and will be closely watched by markets.
Economic news out of the US were mixed, though clearly better than in the Eurozone. The backward looking GDP numbers for the third quarter were strong, but more recent housing market activity seems to have taken a tumble as mortgage rates climb. This week payroll report on Friday should settle the question. However, at this point we see no reason to doubt the strength of the US economy. As always, the key data point will be whether labour market tightness translates into upward pressure on wages.