EUR reaches highest level since Sep-2018 as positivity around the EU recovery Fund continues. USD weakens again, although NZD and AUD underperform. Equity markets fall, especially in China after closure of US consulate in Chengdu 

The USD continued to weaken on Friday, despite generally softer risk appetite.  The EUR reached its highest level since September 2018, helped by stronger-than-expected PMIs and positive sentiment related to the EU Recovery Fund.  The NZD and AUD underperformed on Friday but were up strongly on the week.  The US 10-year bond yield hit its lowest level since April before recovering.

The euro currency continued its recent strong run on Friday, rising 0.5% to above 1.1650, its highest level since September 2018.  The EUR gained 2% across the course of last week, with markets reacting positively to the agreement on the €750b EU Recovery Fund.  The Recovery Fund is a pivotal moment for the EUR because it is the first time there will be large, fiscal risk sharing between countries in the region, which investors see as improving both the economic outlook the region’s resilience to shocks.  The flash PMIs released on Friday night added to the positive sentiment, with both services and manufacturing sectors returning to growth in July.  The services PMIs in Germany and the Eurozone were much stronger-than-expected, although this part of the economy was hit much harder than manufacturing during the lockdowns.  The Italy-Germany 10-year bond spread declined again and is close to a 12-month low.

The USD, on the other hand, remains under pressure.  The Bloomberg USD index fell 0.4%, bringing its cumulative decline over the week to 1.3%.  It is near a 12-month low.  The resurgence in positivity towards the EUR is one factor behind the recent fall in the USD, although declining interest rate differentials (especially for real, i.e. inflation-adjusted, interest rates) have also weighed on the USD.

Risk appetite was generally softer on Friday, with equity markets falling.  China’s announcement that it would close the US consulate in Chengdu, in retaliation for the closure of its Houston consulate earlier in the week, didn’t help sentiment.  The CSI300 index of Chinese stocks fell 4.4% on Friday while the CNY weakened slightly against the USD, despite broad-based USD weakness elsewhere.  The S&P500 fell 0.6% and the NASDAQ 0.9%, although both remain near their recent highs.

The market is also wary of the expiration of enhanced US unemployment benefits this Friday, which will hit US incomes and likely accentuate the recent slowdown in the US economic recovery, unless it is extended in some form.  Republican senators are set to reveal their draft fiscal stimulus bill today, with US Treasury Secretary Mnuchin saying that they would propose a cap on unemployment benefits of 70% of prior wage income (compared to a flat $600 extra payment).  The new fiscal stimulus bill, which needs agreement from Democrats, will include a proposed new round of cheques for $1,200 sent directly to certain households according to the FT.

The NZD and AUD underperformed on Friday amid the falls in equity markets and the CNY.  Both currencies rose 0.1% against the USD on Friday.  The AUD tested support around 0.7063 (its previous high for the year), before closing the week just above 0.71, while the NZD finished around 0.6640.  The NZD and AUD were up 1.3% and 1.6% last week, respectively.  The JPY outperformed on Friday (+0.7%) amidst the risk-off tone and reached its highest level against the USD in almost four months.

The US 10-year Treasury yield reached its lowest level since late-April, at 0.55%, before rebounding to close slightly higher, at 0.59% (+1bp).  Global rates remain locked in extremely tight trading ranges, at very low levels.  NZ rates are very much the same.  The 10-year NZ swap rate barely moved last week, and it remains extremely low, at 0.69%.

There was little reaction to the US PMIs, which showed more modest improvements than expected, with the services sector remaining in contractionary territory.  The market tends to put more weight on the ISM surveys in the US, although the smaller-than-expected bounce in the services PMI is consistent with other high frequency indicators (including weekly jobless claims) that suggest the US recovery is showing signs of stalling amidst the resurgence in COVID-19 across multiple southern and western US states.

On COVID-19, US new cases remain very high (new daily cases haven’t been below 60,000 in a fortnight) but are showing tentative signs of stabilising.  There are also concerns about a second wave in Spain, particularly in the region of Catalonia.  Catalonia’s regional government announced it would close all nightclubs for two weeks while the UK said it would require all visitors to Spain to self-isolate for 14 days on return.  Meanwhile, the Australian state of Victoria reported 459 new cases of COVID-19 on Saturday, its second-highest daily total.  Melbourne is almost half way through its 6-week lockdown.

There is plenty happening offshore in the week ahead.  Negotiations around another US fiscal stimulus package are likely to remain a major market focus.  The FOMC meeting takes place on Thursday morning, with most analysts not expecting any policy announcements or changes this month.  The market will be listening for any clues from Chair Powell’s press conference that might foreshadow more action in September (such as more bond purchases or enhanced forward guidance).  US corporate earnings season continues, with tech heavyweights Apple, Facebook, Amazon and (Google parent) Alphabet all reporting.  US GDP is expected to show a 35% decline in Q2 (annualised) but there will also be interest in the weekly jobless claims data, after they unexpectedly increased last week.  The Chinese official PMIs are released on Friday.

In NZ there is the final version of the ANZ business survey on Thursday.  The preliminary reading earlier in the month showed a strong bounce in activity indicators, although to levels that are still very low on a historical basis.  New Zealand Debt Management announces its August bond tender schedule on Wednesday morning, which should include details of when it plans to ‘tap’ its 2027 maturity bond.