Euro Bounce
Euro bulls were initially disappointed by the ECB’s decision to leave rates unchanged and comments from Draghi which did not indicate the ECB was any closer to delivering rate cuts or another 3-year LTRO. Draghi did acknowledge the “downside risks” for the economy and the fact that the rate decision was not unanimous, but he was quick to stress that nominal rates are “very low”, negative real rates persist, the full effects of the previous 3-year LTRO have not been observed yet, and many financial stress indicators have improved. Draghi summed up by noting the ECB did not possess any “silver bullet” to solve the crisis. Yet, EURUSD bounced, as Draghi’s suggestion that a “financial markets union” might be a viable short-term option apparently fostered hopes of at least some incremental progress heading into the EU Summit on June 28-29. While Draghi said the ESM cannot directly recapitalise banks under current statutes, the issue is still ‘live’ as a unanimous decision by the ESM board of governors could conceivably change this. EURUSD extended its gains on the back of press reports indicating that European officials are pondering a bailout programme for Spain that would focus on the banks and critically, only impose “very limited conditionality” without any heavy-handed austerity measures. The policy spotlight now shifts to the BoE. We are with the majority looking for a ‘no change’ verdict this month, but a QE expansion still looks likely by August. We think a weaker than expected services PMI report (consensus 52.4 for May vs 53.3 in April) could bring this forward. The Fed’s Beige Book did not offer anything materially new for the doves, ahead of the comments from the Fed’s Yellen and Bernanke’s testimony. A downgraded economic assessment might be served up by the Chairman, but our US economics team does not foresee any further Fed easing this month.
Click here to read the full report: UBS Morning Adviser Asia
UBS Investment Bank