Mario Draghi oversaw his final meeting as the head of the European Central Bank today. After serving an 8-year term as one of the world’s most influential central bankers, he left investors with a gloomy outlook and warning that low rates are here to stay. Euro sold off in response, dropping briefly below 1.11 in the process. The moderation in services and construction activity along with weak wages and employment growth means the downside risks are prominent. Today’s PMI reports confirm that activity is subdued in Germany and the Eurozone. Low inflation is also a persistent problem and with prices likely to “decline slightly further….ample degree of monetary accommodation is still needed.” As the latest data shows further weakening of the economy, Draghi called on governments with fiscal space to act because all successful monetary unions have a fiscal capacity.
For his successor Christine Lagarde, the main risk will be a downturn in the economy. While her first monetary policy meeting won’t be until December, the prospect of additional weakness in EZ data – particularly in Germany should keep the currency under pressure. Investors are waiting for evidence of recession and when they receive it, we could see renewed losses in the euro. The next temperature check will be Friday’s German IFO report. Euro’s greatest weakness should be against the crosses as the prospect of Fed easing next week limits the EUR/USD’s slide. Technically, the rejection of the 100-day SMA means that we could still see the pair sink below 1.1050.
Meanwhile the greenback traded higher against all of the major currencies today. Investors shrugged off the decline in durable goods when Markit Economics released stronger PMIs. Their reports are generally less market moving than ISM but the fact that they saw improvements in manufacturing and service sector activity was good news for the dollar. With that said, the Federal Reserve is widely expected to lower interest rates next week and we believe that USD/JPY will see 108.00 before that happens. The decline in durable goods and new home sales highlights the underlying weakness in the economy.
The worst performing currencies today were the Australian and New Zealand dollars. NZD fell in sympathy with AUD after weaker PMIs. According to the flash numbers from CBA, manufacturing and service sector activity slowed in the month of October. On top of that, Australia’s T-bill auction was undersubscribed. Both currencies have become overextended and were due for a correction. We see another day or two of weakness before stabilization. USD/CAD on the other hand fell to fresh 3 month lows. With other major currencies turning lower, it should only be a matter of time before there’s a relief rally.
Last but certainly not least, GBP/USD pulled back on reports that the EU may wait until Monday to decide how long of a Brexit extension they will grant the UK. Boris Johnson is also pushing for a general election in December. He’s apparently said that he will give MPs more time to debate if they agree to an election. UK Labour leader Corbyn on the other hand said he would wait to see how much time the EU gives them before deciding on whether to reject or approve Johnson’s call for election. The bottom line is the drama will go on but the EU’s decision due on Friday or Monday should be a major breakthrough.