Key news- Sentiment continues to deteriorate in Euroland and US equity markets decline as a response to weaker-than-expected US data and the escalation of the euro crisis. Asian equity markets follow this trend.
- The Chinese PMI grew less than expected, which added to negative sentiment in the Asian equity markets.
- The euro remains under pressure against major currencies.
Markets Overnight
The US equity market remains under pressure as data showed the US economy grew more slowly in Q1 than previously estimated and business activity expanded in May at the slowest pace in more than two years. In addition, the number of Americans applying for unemployment benefits rose. Today we will receive the labour market report as well as the ISM and a string of other US economic data. If the weakness in the data is confirmed the market will speculate about aother round of QE from the Federal Reserve. The situation in Euroland continues to worsen with significant pressure on Spain and Spanish banks and German Chancellor Merkel finds herself more and more alone in her call for continued austerity. S&P500 declined 0.2% yesterday.
In the Asian markets most indices have declined. Nikkei is down 1.3% this morning. The weaker-than-expected Chinese PMI data for May confirmed the slowdown in the Chinese economy. The PMI came in at 50.4 against expectations of 52. Furthermore, retail sales in Hong Kong rose at the slowest pace since 2009 as mainland visitors cut spending in Hong
Kong.
In the US bond market the Treasury yields continue to decline as a result of weaker economic data, the crisis in Euroland and the flight to safety, where investors buy US Treasurys, German Bunds as well as Danish government bonds.
In the FX market the euro remains under pressure, trading at the 1.23-level against the dollar. USD/JPY is also heading towards lower levels and testing the 78-level. Scandi currencies are performing well – especially DKK and NOK. Yesterday the Danish Central Bank again cut rates in order to stem the inflow.
Global Daily
Focus today: In Ireland counting of the votes in connection with the fiscal treaty will start at 9:00 CET and the final result is expected to be ready before noon. If the result of the Irish referendum turns out to be the expected "yes," focus today will be on macroeconomic data. In Europe the UK, Spain, Italy and the Scandinavian countries will
all release manufacturing PMIs for May, which will probably confirm that global manufacturing activity lost some steam. Also watch out for a possible downward revision of the flash estimate for eurozone PMI. A downward revision will indicate intensifying weakness throughout May.
In the US manufacturing activity has probably not been able to buck the negative trend witnessed around the world. We only expect a moderate drop in ISM manufacturing in May in line with consensus but a weak Chicago PMI suggests downside. The most important event is the May labour market report. We have revised our estimate for nonfarm payrolls lower to +140K (consensus: +150K) on the back of the weaker-thanexpected ADP report and weak labour market measures in the conference board consumer survey. Should the labour market report disappoint substantially (non-farm below 100K
and weak details) it could pave the way for QE3 from the Fed.
Fixed income markets got even more extreme yesterday with peripheral spreads widening and core yields reaching new lows. ECB president Draghi refusing to provide help to struggling sovereigns contributed to the already sour sentiment and it now seems somewhat difficult to turn the mood just by cutting rates next Wednesday. The eurozone seems more split than ever and it does not look like a convergence process is about to start before a common fiscal framework or eurobonds are introduced. The outcome of the Irish referendum yesterday will be known later today - a "yes" could bring some relief and send Irish yields lower.
In the FX markets USD continues to outperform on the back of risk aversion. EUR/USD dropped briefly to 1.2322 overnight after poor Chinese PMIs were released but the euro has gained back a little and the currency pair trades slightly above 1.2350 this morning. We expect any EUR relief to be short-lived as risk aversion continues to dominate the market direction. Hence we see further downside risk to EUR/USD.
Japan’s Finance Minister Azumi tried again to talk the yen weaker by threatening with an intervention if the current excessive moves continue. We have not seen any interventionaction from the BoJ since November 4 despite frequent comments from Azumi in the past month. However, the poor Chinese PMIs add to the growing concerns about a hard landing in China and it will probably increase the likelihood of an intervention from BoJ.
EUR/DKK trades marginally lower after the Danish central bank yesterday cut interest rates for the second time over the past two weeks. We expect the current financial stress to continue and the krone to strengthen against the euro because of the continued inflow. Hence, further rate cuts from the Danish central bank are expected in the near future - most likely Wednesday next week when the ECB is expected to cut the interest rate by 25bp, which will be mirrored by the Danish central bank.
Scandi Daily
Denmark: The Danish Central Bank (Nationalbanken) yesterday reduced the Danish lending rate, current account rate and the certificates of deposit (CD) rate by 15bp to 0.45%, 0.0% and 0.05%, respectively. With the CD-rate at zero Denmark has now officially introduced Zero-Rate Interest Policy (ZIRP). The rate reduction came after the central bank had intervened in the market to weaken DKK. The new currency inflow is obviously related to Denmark's status as a safe-haven in the euro debt crisis, which has now turned into a full-blown crisis with increased focus on Spain.
We expect that the current financial stress will continue over the next few months and that the currency safe-haven inflow will continue despite the lower Danish rates and the negative carry in short EUR/DKK positions. Yesterday's rate cut once again underlined that the ‘reaction function’ of the Danish central bank is unchanged despite the already low level for interest rates. Hence, if there is - as we expect - new currency inflow, the central bank will intervene first and subsequently cut interest rates. The strong reaction by Nationalbanken yesterday also underlines that we should expect EUR/DKK to only drift marginally lower. It seems that Nationalbanken is very committed to keep EUR/DKK from dropping significantly below 7.43.
Therefore, the central bank is now expected to cut the CD rate to below zero over the summer. The next CD-rate cut might very well come on Wednesday when the ECB is expected to cut its refi-rate by 0.25% to 0.75%. Nationalbanken is expected to mirror this rate cut by lowering the lending rate to 0.20%. Whether Nationalbanken will use this opportunity to lower the CD rate to below zero will in our view depend on two factors. Firstly, whether the ECB - contrary to our view - lowers the deposit rate from the current 0.25% level and, secondly, whether foreign currency will continue to flow into Denmark the next couple of days. If we are correct, Denmark for the first time in history will have a negative rate policy if the certificates of deposit rate is considered. Note that the central bank in yesterday’s press release underlined that it has the instruments to handle potential negative interest rates.
Sweden: Today the Riksbank will publish its Financial Stability Report and if it contains anything of interest we will be sure to keep our readers posted. Today's main event, however, is the Swedish PMI-data, which we expect to moderate mainly on the back of a more dire external environment. Given the strength in the NIER’s business confidence last week, this is nonetheless far from certain. Although important, markets will probably take their cue from developments elsewhere on this non-farm payroll day.
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