EUR resilience, AUD hit by soft inflation

A distinctly downbeat tone to risk assets in the wake of disappointing manufacturing sentiment surveys in Europe and China and political uncertainties in Europe threatens to engulf markets today. There is very little on the data and events front that will change this as markets refocus to the outcome of the Fed FOMC meeting tomorrow. Consequently risk assets will remain under a degree of pressure in the short term unless the Fed delivers any fresh hints of more quantitative easing tomorrow.

A round of weaker than expected readings for Eurozone purchasing managers indices has led to a renewed wave of pessimism towards the Eurozone economy and selling in Eurozone assets. The collapse of the Dutch government over budget cuts and the results of the first round of French elections only added to the malaise. Once again however, the EUR remains resilient and has hardly flinched in the wake of bad news in the region.

I believe it is only a matter of time before the EUR succumbs to growing pressure, especially given a likely widening in its growth gap versus the US. Today’s bond auctions in Spain, Italy and Netherlands will be in focus but ought to provide little relief for the EUR, with the currency likely to edge towards 1.3057 support versus USD.

Australian Q1 CPI inflation data came in much softer than expected, with the trimmed mean CPI coming in at 0.3%, half the consensus expectation and well within the Reserve Bank of Australia’s target range. The data seals the case for the RBA to pull the trigger at its 4 May monetary policy meeting. The main imponderable is the magnitude of the rate cut. A 25bps cut had already been priced in but speculation of a 50bps move is likely to have grown.

Nonetheless, I believe the market is overly dovish, with a lot of easing already priced in (100bps in the current cycle). I don’t agree with market pricing, suggesting that eventually the AUD will recover as rate expectations correct. However, wariness ahead of the RBA meeting and deterioration in risk appetite will keep the AUD under restrained in the near term. AUD/USD support is seen around 1.0226, with a break below this leading to a test of 1.0145.

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