Euro, Stocks-Linked Currencies Vulnerable as All Eyes Turn to ECB

Euro, Stocks-Linked Currencies Vulnerable as All Eyes Turn to ECB

Talking Points

• Euro Vulnerable if ECB Signals Policy Easing Efforts Are on the Horizon
• Relatively Hawkish ECB May Sink Risky Assets on Global Growth Fears
• British Pound Pullback May Find Added Fuel in Lower Services PMI Print
• US Jobless Claims, Services ISM Data to be Judged in Terms of QE3 Bets
• Kiwi Selling on Jobs Data Unlikely to Last, Aussie Down on China Outlook

All eyes are on the European Central Bank interest rate decision after yesterday’s dismal economic data set showed the manufacturing and services sectors contacted at the fastest pace since June 2009 while the region-wide unemployment rate rose a record-high 10.9 percent. While an outright interest rate cut is not likely this time around with inflation holding at 2.6 percent in April, markets will look to the press conference from ECB President Mario Draghi to offer guidance on steps the central bank is prepared to take to alleviate what appears to be a deepening recession.

Hints of forthcoming easing â€" whether by outright rate cuts or LTRO-style efforts â€" are likely to weigh on the Euro. If Draghi opts to invoke the central bank’s singular mandate to assure price stability as a reason for inaction however, worries about the impact of an accelerating downturn in the Eurozone on global output at large may weigh on risk appetite and undermine sentiment-linked currencies while boosting the safe-haven ones. This may drag down the single currency against the likes of the US Dollar and Japanese Yen.

Elsewhere, UK Services PMI figures are expected to show that the non-manufacturing sector slowed in April, which may put downward pressure on front-end UK yields and weigh on the British Pound. A pair of bond auctions from France and Spain round out big-ticket event risk, with traders keeping a watchful eye on average yield and bid-to-cover readings for signs of returning funding stress, although investors are unlikely to show directional conviction on the results until after the ECB announcement crosses the wires.

US Jobless Claims and the ISM Non-manufacturing Composite gauge enter the spotlight later in the session. The likelihood of a Fed QE3 program remains a driving theme for the greenback, meaning soft outcomesare likely to be taken as fodder for stimulus hopes and could weigh on prices. The balance between such headwinds and any b oost from risk aversion or particularly dovish ECB rhetoric may yet work in the Dollar’s favor however, particularly considering traders’ reticence to commit to a firm QE3 view ahead of Friday’s closely-watched US Employment report.

The New Zealand Dollar underperformed overnight, sliding as much as 0.6 percent on average against its leading counterparts, following a disappointing set of first-quarter Employment figures. Although hiring rose by 0.5 percent â€" an outcome that narrowly topped economists’ forecasts â€" the unemployment rate unexpectedly surged to 6.7 percent, marking the highest reading since the fourth quarter of 2010. Importantly, the participation rate also jumped to 68.8 percent, so selling pressure seems unlikely to prove lasting considering the jump in the jobless rate didn’t seem to reflect labor market stress. The Australian Dollar sold off after the China Non-manufacturing PMI index fell in April, pointing to slowdown in Australia’s top export market.

Asia Session: What Happened

Euro Session: What to Expect

Critical Levels

--- Written by Ilya Spivak, Currency Strategist for Dailyfx.com

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