Dollar recovers after dovish Draghi, equity rout fuels safe-haven flows

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6 February 2018

thomasdodds

A strong set of economic data out of the US economy and some dovish comments from President of the European Central Bank (ECB) Mario Draghi helped the Dollar rally against the Euro for the second straight session on Monday.

S
peaking in Strasbourg, France, Draghi warned that a strong Euro could present a potential obstacle to the ECB in its quest to returning inflation in the currency bloc back to its 2% inflation target. In a typically cautious address, he claimed that ‘while our confidence that inflation will converge towards our aim of below, but close to, 2 percent has strengthened, we cannot yet declare victory on this front’. Draghi cited headwinds from ‘Euro volatility’, referring to the recent sharp upward move in the Euro that has seen the currency strengthen by almost 18% against the US Dollar in the past twelve months alone.

The greenback received additional support from a bumper set of services sector data from ISM. The non-manufacturing PMI rebounded to an impressive 59.9 in January from initial estimates of 56.5, marking its strongest reading since August 2005. This is an encouraging sign that tentatively suggests the US economy could be set to pick up pace in the first few months of 2018.

Elsewhere, the major story in financial markets was undoubtedly the sharp decline in stock markets around the world. European stocks followed that of the US after Friday’s strong nonfarm payrolls report ramped up expectations for higher interest rates from the Fed this year. Investors fled to the safety of the Yen, sending the currency back below the 109 mark.

UK service sector activity falls to lowest since Brexit vote

The Pound had a fairly torrid session against a broadly stronger US Dollar yesterday after the release of Monday’s services PMI raised genuine concerns over another economic slowdown in the UK.

Yesterday’s manufacturing index slipped to just 53.0 for January, a fairly sizeable departure from the 54.3 consensus. This marked the sector’s slowest pace of expansion since the immediate aftermath of the Brexit vote sixteen months ago, which is undoubtedly a worrying development. This ensures that all three of the UK’s PMI indicators fell short of expectations in the first month of the year, suggesting that overall economic activity slowed fairly sharply in the month. Financial markets are currently pricing in another interest rate hike from the Bank of England in August, although it will only be a matter of time before expectations for the next hike be pushed further into the future should this downward trend in activity persist.

With economic data very light in the UK in the next couple of days, investors will have eyes firmly on Thursday’s Bank of England meeting.