Weekly Market Update – 29 July 2019

EUROZONE MONETARY POLICY

Not bright

During the press conference that followed last week’s meeting of the Governing Council at the European Central Bank (ECB), Mario Draghi painted his impression of eurozone prospects. It wasn’t pretty.

‘…this outlook is getting worse and worse and it’s getting worse and worse in manufacturing especially. It’s getting worse and worse in those countries where manufacturing is very important. But because of value chains, this propagates all over the Eurozone…’

That is why we can expect rates (currently set at 0.0% and -0.4% for ‘main refinancing operations’ and ‘overnight deposits’ respectively) to ‘remain at their present or lower levels at least through the first half of 2020’. In other words, the main tenets of monetary policy will not be tightened for at least a year.

The reasons given, and which colour the gloomy outlook, are a little wishy washy. They are, we are told, ‘…basically found to be in the general uncertainty that’s now been with us for several months, actually more than a year, and which relates… to trade wars, to geopolitical tensions too’.

Anyway, whatever the cause, likely further deterioration in economic output only serves to undermine the ECB’s efforts to draw inflation back toward the 2.0% target. The most recent reading for the consumer price index measures just 1.3%.

We think we are soon going to see something a little more imaginative than a mere rate cut.

GERMANY MANUFACTURING OUTPUT

Scary

Last week’s ‘flash’ estimate for the German manufacturing Purchasing Managers’ Index (PMI) was a horror show. The PMI takes the form of a diffusion index with anything above the neutral 50.0 mark indicating output which has increased and anything below characteristic of a contraction. July’s reading jumped out at 43.1. Actually, it’s not all that bad we suppose. Germany’s services companies are sustaining solid growth – the flash estimate in that sector measured 55.8 – meaning that the composite index sees Europe’s largest economy just about holding it’s head above the water. As an aside, the worse the economic data gets in Germany, the more we like German stocks. They, with UK stocks a close second, offer good value by our estimations.

USA MONETARY POLICY

Going down

Expect the Federal Open Market Committee to reduce the upper limit on the target range for the Fed Funds rate from 2.5% to 2.25% during the course of next week. Everybody else does.

Indeed, the market-implied probability of a 25 basis point rate cut is 100%. Not 95%, 100%.

And that is in spite of a solid 2.1% expansion in economic output during the second quarter – marking, incidentally, this US expansion as officially tied for the longest on record.