Euro holding up as equities gain

The euro traded more or less sideways yesterday after ticking up on Monday. The single currency is at $1.074 to the dollar this morning and 84.3p to sterling. Despite some poor sentiment data in Germany yesterday, attitudes toward the Euro Area seems a bit more positive this week following the big drops last week and that is helping the Euro stay up above $1.07 for now. Equities in Europe have also taken back some of last week’s lost ground. The Eurostoxx was up for a second day running, this time by 0.7%,  with the German Dax and French CAC both posting gains. In the UK, the FTSE also moved up, gaining 0.6% for the day.  In the US, tech stocks helped equities move higher again with current AI darling NVIDIA becoming the world’s most valuable company by market cap yesterday and boosting the S&P 500 to yet another fresh high.

UK CPI eased back to the Bank of England’s 2.0% target in May, for the first time in nearly 3 years. The annual rate came back from 2.3% in April. However, the news was not all positive as it’s a negative rate of goods inflation, which fell 1.3%, that is pulling down the headline rate while services inflation is still running quite hot, at 5.7% in May, just about ticking down from 5.9% in April. This level of services inflation will be worrying for Bank of England policy makers and with that underlying pressure the headline rate is more likely  to head higher rather than lower in the months ahead. The Bank of England meets tomorrow but no move from them is expected, particularly given the political situation in the middle of an election campaign. This data – despite the lower headline rate – has the market reducing the chances of policy being eased at the September meeting with a first rate cut now not fully priced in until November.

The ZEW survey in Germany showed weak sentiment again in June. The current situation survey ticked down to -73.8 from -72.3 in May, when an improvement was expected.  The expectations index barely inched up, to 47.5 this month from 47.1 in May. The current situation survey is showing stagnation at a low level and while expectations is improving, its upturn has been slow. While the German economy is forecast to grow modestly this year and accelerate in 2025, businesses are sceptical of that outlook and fearful of a renewed downturn. Some of the hard data does suggest that parts of the German economy are continuing to struggle, notably industry where production has fallen in each of the past 2 months and orders are down in each of the first 4 months of the year.

There was mixed data out of the US. Industrial production increased by 0.9% month-on-month in May. That follows a fall in April but the rebound last month was strong and broad-based. It’s hard to see if this can be sustained as sentiment in the sector has been fairly weak amid mixed demand and pressure on costs but this is a welcome fill-up. The news from consumers was more negative however with retail sales barely increasing in May. Sales were up 0.1% in May from a 0.2% drop the previous month. There were healthy gains in retail spending in February and March but the wind seems to have turned now with much more subdued spending recently. Past inflation has hit households hard, and while inflation rates are easing now, consumers appear more cautious amid high interest rates, worries about the economy and wary of the future path of inflation.

A number of Fed members were out yesterday but all were singing from the same hymn sheet and urging caution on expectations of interest rate cuts. Fed Governor Kugler said easing policy ‘sometime later this year’ would likely be appropriate if the economy evolves how she expects while St. Louis Fed President Musalem said he would need to ‘observe a period of favourable inflation’ and that it would take many ‘months or likely quarters’ of data before a cut could be considered. Logan from Dallas, Barkin from Richmond, Williams from New York and Collins from Boston all were out with similar remarks saying that that their expectations are that inflation is coming down but it’s too soon to make a determination and that months more data will be needed. The Fed is making a concerted effort, it seems, to urge market caution on pricing in any easing of policy before well into the second half of this year.

ECB Governing Council member Klaas Knot said there remains a lot of risks to the outlook that the ECB need to consider before cutting rates further. He said that ‘uncertainty was a central concern’ with risks to the economy and financial system at the current time. He said he was concerned that wage growth risked inflation starting to rise again while rising geopolitical  tensions were generating greater uncertainty which could lead to market corrections and higher risks for financial institutions. He specifically mentioned high equity prices making markets vulnerable to corrections and a downturn in sentiment. He noted how the political uncertainty in France spread from a correction in bonds spread quickly to French bank shares and he said he wondered if ‘investors are fully pricing in the risks of geopolitical tensions’. With all that in mind, he said that the ECB had to base decisions on incoming data and not on ‘pre-empting future developments’. His colleague, Vice President Guindos had a somewhat different take and see forecasts as important to ECB decision making. He said that the quarterly forecast produced by the Bank were ‘significant moments and most interesting….as important indicators of deciding how interest rates will evolve’. He added the ‘direction is clear in the mid-term but in the short term it will depend on the data’. The ECB will next produce forecasts in September and Guindos’s comments, among others, suggests this will be the next time the ECB will seriously consider changing policy.

Economic data due today includes UK house prices, Euro Area construction output and Irish property prices. ECB dove Centeno is due out and he has become notably more cautious recently about the near term outlook for easing policy.