Dollar Higher On Risk Aversion, But Strength Limited Against European

Asian equities are broadly lower in response to the weak economic data from US overnight and on concern of deeper global slowdown. Investors are also lightening positions ahead of key events of ECB press conference and employment data from US later in the week. Additional pressure was seen after weaker than expected GDP report from Australia and comments from a BoJ policymakers.

Dollar regained more ground against European majors but stays in familiar range so far and thus, the current development doesn't warrant a reversal yet. We're still near term bullish in EUR/USD. Meanwhile, Aussie extends it's recent decline as other major currencies and outlook in AUD/USD stays bearish.

Australia GDP grew a mere 0.6% qoq in Q2, comparing with expectation of 0.8% qoq. That's also less than half of Q1's 1.4% qoq growth. Year-over-year rate also slowed from 4.4% to 3.7%. Looking at the details, household consumption slowed significantly to 0.6% and fixed capital spending slowed to 1.0%. Though, that was partly offset by increase in government consumption of 1.6%.

Overall domestic demand growth slowed to 0.9% much weaker than Q1's 2.1%. Export, though, returned to normal and grew 2.5%, after a shocking -0.9% contraction in Q1. The data is inline with overall view that while still being robust, the Australian economy is going to slow further in H2 and solidifies the view on more RBA rate cuts down the road.

BoJ board member Ryuzo Miyao said in a speech that there is "increasing risk that an overseas economic recovery will be delayed". Also, Miyao warned that "business sentiment has become cautious around the globe and the risk is increasing that the global economic slowdown will be prolonged". He said that US recovering "seems to be slowing" and Asian economies are slowing to due to "drop in their exports to Europe."

But he's optimistic that Chinese recovery will help global economies recovery. In Japan, the economy is "moving towards a recovery" but "worrying factors are increasing". He also pledged that BoJ will "push ahead with its powerful monetary easing by increasing its asset purchases (as already decided)." Regarding yen, Miyao note that weak stock prices combined with strong yen will "hurt sentiment among businesses and households and restrict capital spending and private consumption" and weigh on the economy.

Investors were thrilled after ECB President Draghi's comments made before the European Parliament that the central bank would be comfortable to buy bonds of maturity up to 3 years. Spanish and Italian bonds rallied, sending the yields lower, although the steepest declines occurred in the short ends of the curves. Italian 2-year bond yields dropped -26 bps to 2.37% while 10-year bond yields slipped -10 bps to 5.67%.

In Spain, 2-year bond yields plunged -44 bps to 3.07% while 10-year yields fell -28 bps to 6.57%. Other European officials also indicated confidence over the outlook. For instance, French President Hollande stated that the EU leaders' summit on October 18/19 would “find solutions” for Greece and Spain.

However, the idea of three year bonds purchases was also criticized as a "magic number." Firstly, there is no clear indication of what could be considered state financing and there so far, it's uncertain why shorter term bonds won't break the treaties. Secondly, ECB did buy bonds with maturity up to ten years in its SMP before. Thirdly, there are risks that some governments would be tempted to significantly raise the amounts of short-dated bonds and thus increase overall roll-over risks. Much information is needed from Draghi in this week's press conference.

Before that, focus of today would be the BOC meeting but nothing new is expected from the central bank. The BOC would likely leave the policy rate unchanged at 1%. In contrast with other major central banks, the BOC would continue to hint that monetary tightening (instead of easing) might follow should economic developments justify. Swiss CPI, Eurozone PMI services and retail sales, UK PMI services, US nonfarm productivity will also be released.