ECB cut fuels appetite, weighs on Euro

The European Central Bank (ECB) lowered its interest rates by 25bp yesterday, in a widely expected and priced in move. Chief Christine Lagarde highlighted that inflation is coming under control, warned that there could be a temporary uptick, but the figures will be sustainably back to target by next year and that the Eurozone will unlikely enter recession. It was rather a dovish cut. Note that the bank said that it will maintain its meeting-by-meeting data-dependent approach in place and is not committed to a particular rate pattern, but the bank’s confidence that inflation is being tamed, and the morose economic data boost the probabilities of further rate cuts from the ECB in the coming meetings. The expectation now is that the ECB will cut its rates at every policy meeting until March. Next stop: December.

As such, the euro sold off after the ECB decision. The single currency is preparing to test the 83 cents level against sterling – which has also been weakening this month on rising dovish Bank of England (BoE) expectations and softening British inflation. The October budget is causing some weakness in sterling but the outlook remains more bullish for sterling than for the euro: the 82 cents level now seems within reach – under the condition that the Autumn budget doesn’t trigger chaos by the end of the month. Against the US dollar, the euro extended losses to 1.0811 yesterday and is consolidating near the 1.0840 level this morning. But some of the weakness could also be attributed to the strength of the US’ own economic data that showed a stronger-than-expected retail sales in September, a bigger-than-expected jump in Philadelphia Fed’s manufacturing index and jobless claims in line with expectations. Atlanta Fed’s GDP Now forecast will be revised today but the forecast already points at a 3.4% growth in the US GDP for Q3 – screaming that the Federal Reserve’s (Fed) 50bp cut was probably unnecessary last month. Somehow, none of the good news derails the Fed cut expectations for the November meeting. Activity on Fed funds futures gives around 90% for another 25bp cut next month, the US 2-year yield is hovering a touch below the 4% mark, the 10-year yield consolidates near 4.10%, but the US dollar index reached its 200-DMA yesterday for the first time since August. The greenback is overbought, but there is room for further recovery as most of the news that come from the US is looking good. Unlike in Europe.

The medium-term outlook for the EURUSD turns negative. The RSI indicator suggests that the pair has now stepped into the oversold market conditions and a period of consolidation and a minor correction would be healthy at the current levels. Nevertheless, price rallies should see resistance near the 1.0980/1.10 area that shelters the 1.10 psychological mark but also the major 38.2% Fibonacci retracement that should keep the actual bearish trend intact. On the downside, a sustainable move below the 1.0835, the major 61.8% Fibonacci retracement on the summer rally, should pave the way for a deeper selloff toward the 1.07/1.0730 range.

In the equities space, the Stoxx 600 reacted positively to the dovish ECB decision on Thursday. The prospect of further policy easing helped taming the disappointing ASML and LVMH results earlier this week and should help counterweight the gloomy economic outlook of the Eurozone and not-so-promising earnings season. After all, the European stocks are more cyclical than their major peers and should continue to benefit from a period of global monetary easing. And hey, the latest data from China printed a slower-than-expected growth in the latest quarter, but industrial production and retail sales jumped more than expected in September. Improvement in Chinese sales could improve the fortunes of the China-sensitive European luxury stocks.

On the other side of the Pacific Ocean, things are looking good – to say the least. The earnings  season in the US there is going well. Netflix announced another surprise in subscriptions when it reported its Q3 results yesterday after the bell. The company added 5 mio new subscribers as the password sharing crackdown continued to operate its magic. Most of the new customers joined from Europe, Middle East and Africa. Netflix shares jumped 5% in the afterhours trading. Elsewhere, TSM announced an easy beat when it reported its Q3 earnings yesterday and boosted its forecasts. Its CEO reiterated that one of its clients said there is ‘insane demand’ for its chips that will be built by TSM. That client’s share (Nvidia) gained 0.89% yesterday on strong TSM earnings, it wasn’t much compared to the rallied that we are used to, but the stock hit a fresh record for the first time since June.

Overall, the S&P500 hit a fresh record yesterday, even though the index gave back gains on worries that the Fed’s rate cutting plans look farfetched with the amount of good economic and corporate data on the wire. The Bank of America’s latest fund manager survey showed that the S&P500 has reached the level of optimism last seen during the post-pandemic rally. Allocations to stocks surged and exposure to bonds fell in September. The high level of optimism means that there is room for it to fade. This being said, the VIX index is gently fading and the headlines give no particular reason to reverse appetite, for now.