ECB Jawboning The Euro

Chris Lagarde

Axel Botte (Ostrum AM/Natixis) | ECB chief economist Philip Lane reminded market participants that the euro exchange rate “mattered” as the single currency breached $1.20. ECB talk triggered unwinding of long positions on the euro causing a pullback to $1.18 whilst reversing US curve steepening. The dollar regained ground against most currencies. In terms, Bund yields fell back to -0.45%. After a drop to 0.65% area, T-note yields closed last week above 0.70%. Nasdaq dropped sharply intraday on both Thursday and Friday. The weakness in the Tech-heavy index did not spark widespread risk aversion but it does highlight the speculative nature of the summer rally. European markets have resisted, especially the battered bank sector in response to consolidation efforts in Spain. Sovereign spreads (Italy 10-year near 150bp) have absorbed heavy bond supply last week. Credit spreads were unchanged last week (115bp against Bunds). High yield tightened despite wider synthetic spreads in the wake of the implied volatility’s rise.

Last week in financial markets saw the euro rise above the $1.20 threshold. ECB chief economist Philip Lane intervened recalling market participants that the exchange rate “mattered”. The single currency traded down to $1.18 shortly after the comments. Currency appreciation amid near-zero inflation in the euro area is unwelcome for future price developments. Christine Lagarde’s message next Thursday after the governing council will likely echo Lane’s comments. The policy stance is unlikely to change, even though the ECB still has the possibility to sweeten TLTRO-III terms or prolong asset purchase programs.

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