Low demand but high inflation expectations
European banks have never fully recovered from the Great Financial Crisis and are still trading at a 58% discount compared to levels seen at the beginning of 2007. However, the European Central Banks exit from the negative interest rate regime and overall risk taking environment have seen the Eurostoxx 600 Banks Index rise by 125% since September 2020. But just when things started to turn, the banking sector got hit with another negative development coming in the form of a new 40% windfall tax on excess banking profits, which was announced by the Italian government yesterday.
The tax could amount to around 19% of bank’s net profits for 2023 according to Citi, which is why Italian lenders like Banco BPM, Intesa Sanpaolo and UniCredit fell by more than 8% on the day. On the other side, weaker than expected trade numbers out of China acted as a second negative catalyst for risk assets. Chinese exports fell by 14.5% on the year to the lowest level in five months, fueling speculations about the difficulties of propping up global demand. Both the banking and the China story have pushed down hopes for a quick European recovery. But even as demand remains suppressed, inflation continues to plague the ECB. Consumer prices have come down a lot from the peaks reached earlier this year. But the 5-year, 5-year forward inflation swap – a market-based gauge for longer term inflation –reached the highest level since 2010 at 2.5% this week.
The euro fell against most currencies in yesterday’s trading with EUR/USD slumping to $1.0960. The negative headlines still dominate the market mood and continue to negate any comfort the euro might find from US inflation falling.
US credit risks on the rise?
The banking sector has definitely been in the spotlight as of late. The surprise decision from the Italian government to impose a windfall tax on banking profits was followed by the rating agency Moody’s downgrading 10 mid-sized banks in the US, sparking a renewed stock sell-off.
Yesterday’s development continued the underperformance of US banking stocks, which have fallen by 16% vs. the benchmark S&P500. The re-rating comes just a week after the US lost its triple A rating from Fitch because of the debacle surrounding the increase of the debt limit. Selling pressure was somewhat contained by Philadelphia Fed President Patrick Harker’s comments about the Fed having already reached its terminal rate.
No major economic data releases are scheduled for today, which leaves us waiting for the US CPI report tomorrow morning. The US Dollar Index is on track to record the fourth weekly appreciation in a row but is having trouble gaining traction in early European trading despite Chinese inflation numbers coming in weak.
Pound mixed as risk sentiment sours
The pound has started Tuesday on a slightly weaker note against safe haven currencies like the US dollar and Swiss franc. Risk sentiment has soured after disappointing export and import data from China underscored the weak external and domestic demand in the Chinese economy. Elsewhere, UK house prices continue to fall and retail sales growth slowed to a 9-month low.
The outlook for the global economy remains uncertain, especially when we see such weak economic data from the world’s second largest economy, and it reinforces the need for further stimulus from Beijing. The pound, a risk correlated currency, is circa 0.2% lower against the US dollar this morning, hovering in the mid-$1.27 region, whilst GBP/EUR continues to grapple with €1.16. Sterling is about 0.4% stronger against riskier currencies though, such as the NOK, AUD, NZD and ZAR. Domestically, there’s little in the way of top tier macro data until UK GDP figures on Friday, but yesterday we saw the Halifax house price index fell by 2.4% year-on-year in July. It was the third straight month of yearly fall but slower than the 2.6% rate of decline reported in June and less than the 3.8% reported by Nationwide last week, as rising UK interest rates continue to feed through slowly to mortgage holders as fixed-rate deals expire.
Meanwhile, the British Retail Consortium data for UK retail sales growth revealed a 1.8% rise on a like-for-like basis in July 2023 from a year ago, a marked slowdown from the 4.2% gain in June, and a result of bleak UK weather and stubbornly high inflation.
Renewed risk aversion rocks Aussie & Rand
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: August 7-11
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*The FX rates published are provided by Convera’s Market Insights team for research purposes only. The rates have a unique source and may not align to any live exchange rates quoted on other sites. They are not an indication of actual buy/sell rates, or a financial offer.
