UK and US GDP dominate as the Germans continue to see the economic picture improve.
Week Commencing Monday 24th June 2013
This week in Brief
- UK Data dominated by GDP and the Inflation Report, all of which is expected to be reasonably GBP neutral. GBP is expected to come in unchanged.
- US Consumer Confidence is expect to paint a worsening picture for the economy, whilst real estate sales are expected to rise as credit conditions continue to ease.
- EU summit and German dominated data to lead this week, with mixed messages from the EZs biggest economies thought to be likely. Finance Ministers will likely discuss the worsening situation in Greece as PM struggles to keep hold of government.
Market Themes & Current Events
The Bank of England and The People’s Bank of China have signed a three year currency swap deal, in an arrangement worth GBP 21 billion (CNY 200 billion). The bilateral agreement will allow both central banks to swap currencies together, whilst also freeing up firms to settle in CNY instead of the USD when dealing with China, especially as the Chinese currency is still not fully convertible internationally. UK financial institutions already hold approximately CNY 35 billion worth of deposits in the Chinese currency, and this is now expected to treble over the course of the coming years. This follows the Treasury’s plans to make London one of the leading international centres for trading the Yuan outside mainland China and Hong Kong, whilst Beijing has been pushing these agreements as part of its plan for a more global role for the Yuan.
Sticking with the UK, retail sales recorded a larger than expected rise last month, assisted by a strong increase in food sales. Domestic sales rose 2.1% in May, one of the strongest readings since the conservative led government took office. Analysts and the government alike suggest that this jump in Retail Sales is further evidence that the UK economy is continuing to improve. May's sales increase was a big upswing compared with April, when domestic sales fell 1.1% after bad weather discouraged spending. Despite the optimistic retail sales figure, news from elsewhere in the economy was less encouraging. Automotive manufacturers reported a 8.4% fall in output in May, citing continued weakness in recession hit European markets for the drop in orders.
Moving to Europe, the downturn in both the services and manufacturing sectors eased in June as output fell at its slowest pace since March 2012. Markit's composite purchasing managers' index (PMI) for the EZ rose to 48.9 in June, up from 47.7 in May. The figure was higher than many analysts predicted, with Germany posting growth in both these sectors for two consecutive months. That said, despite the growth Germany saw its largest drop in employment since the start of 2010, whilst job losses continued to increase in France. Taking into account the mixed message here, we still project that the Eurozone could stabilise in the third quarter of the year, with the potential to re-enter growth in Q4.
Eurozone finance ministers have agreed on guidelines on how the ESM can inject money directly into struggling European banks. The move is seen as a key policy move in stabilising struggling banks; however it remains to be seen if national governments and depositors will have to share the burden. Previously, the ESM only bailed out national governments, meaning that governments had to bail out banks using their own balance sheet. This proved problematic in the cases of Cyprus, Spain and Ireland, where it was the country's banks primarily needed rescuing, not the government itself. The problem itself is compounded as most western governments rely on their own banks to lend them the money they need! Under the new scheme, banks with a capital ratio above the 4.5% threshold, would see 20% of the necessary capital provided by the national government, with the other 80% coming from the ESM (with the aim of returning the bank to the regulated “minimum” capital ratio of 7%). Banks with a capital ratio below 4.5% would have to receive help from their own government before the ESM can step in.
This should be a relatively quiet week for Sterling, with only the inflation report hearing, financial stability report and final GDP figures posing any real impact to currency markets. Starting with the inflation report hearing on Wednesday, which sees several BoE MPC members testify to the Treasury Select Committee with regards to current inflation and the economic outlook. The importance of inflation should not be underestimated, given the MPC’s golden objective to target a level around 2%. With that in mind, the recent jump to 2.7% is a substantial blow to the chances of future monetary policy under Mark Carney’s guidance. Any hints or indications of an expected reduction in CPI inflation over the coming month will therefore be treated as a key determinant of the future of the bank’s asset purchase program.
Also released on Wednesday, the BoE reveals its first financial stability report of the year. The emphasis will likely be the recent instability within the financial system, and risks to the resurgent growth within the UK.
Finally, Thursdays Final GDP figure for Q1 2013 is expect to confirm a 0.3% rise for the first three months of the year. Despite this being the final revision of the measure, and therefore being rarely disputed, it always has the ability to surprise markets with small revisions either to the positive or the negative.
The pound has enjoyed a strong rally over the past several weeks, but the bulls run out of steam last week. We believe that the gains were more a case of USD weakness rather than a strong GBP, as can be seen by the USD reversing on the back of the latest QE announcement by Ben Bernanke. We expect further upshot from QE this week, with the USD likely to continue its trend reversal (especially if we see no upward adjustment in UK GDP). GBP/EUR continues to struggle to find direction, with both currencies remaining locked in the 1.1650 – 1.1750 range. We do not see anything on the horizon which can break this trend, so we expect GBP to continue to edge towards the mid 1.17’s and the significant resistance that has formed there.
US Dollar Outlook
We have a considerably busier week for the Dollar, with CB consumer confidence, home sales and GDP headlining the schedule. On Tuesday, the CB consumer confidence figure is expected to show a worsening outlook for US domestic demand. This in contrast to last month’s second consecutive gain in the figure to 76.2. We forecast a fall from 76.2 to 75.6 in this announcement, especially given the recent underestimations of this release.
Also released on Tuesday, we have the new home sales figure which is expected to rise to the highest level in over three years. Last month’s 454,000 rise is predicted to be smashed by a 462,000 increase in sales, signalling an increase in confidence, credit and expectations moving forward. Later in the week, the pending home sales figure for May is likely to rise, with market analysts expecting a 0.8% rise to 1.1% from 0.3% in April.
Lastly for the US, Wednesday’s final GDP figure is expected to confirm a 2.4% growth rate for the first 3 months in the year. Just like the UK release, there is little expectation of a change in this figure given it is simply a more accurate revision of the previous announcements.
With the Federal Reserve announcing its impending decline in asset purchases, the USD performed beyond expectations last week. While the move may have been a bit overdone, the US dollar is expected to remain bid. If no disaster in GDP or Consumer Confidence happens, the next move in the US is a reduction of the pace of monetary stimulus rather than an increase.
Most eyes are on Germany this week, with both German Ifo and the unemployment change expected to affect European markets. We start on Monday with the Ifo figure, which is expected to post a marginal rise from 105.7 to 106.0, representing the second consecutive month of positive growth in this indicator. Despite the mediocre size of the shift in this figure, markets will be looking for a rise of some form to confirm the economy is breaking out of recession, and in turn lifting the EZ closer to growth.
Moving to Thursday, Germany releases its unemployment change figure which is expected to show an increase in unemployment of 5,000. Whilst this indicator continues to show growth in the labour market, the figure represents a significant reduction from the 21,000 rise in April. As markets will be looking for an move into negative territory, we expect the event to be EUR negative. This is compounded by the fact the last four releases have posted worse than expected figures, and it is therefore possible the unemployment figure may in fact be higher.
Finally, Thursday marks to first of a two day EU summit which will be focusing on growth and the continued rise in unemployment across the bloc. With these matters in focus, we expect the German unemployment figure to play a key role in the discussions. Also likely to be in focus is the progress of the Europe-wide banking union, seen by many as a key constitute of ensuring the single currency remains stable. Finally, it is worth noting that the increasingly fragile political position in Greece will have to be mentioned, with Prime Minister Samaras now holding onto a thin majority following the decision of the Leftist Democrats to exit the coalition. This comes amid massive upheaval over the closure of a state television broadcaster under the orders of the PM. Should Samaras loose another coalition partner, the event is expected signal another round of elections, with the far right likely to win a majority government.