ECB Policy Meeting Key Takeaways
- ECB holds rates at 3.75%.
- Persistent inflation concerns with downside economic growth risks.
- Speculation on future rate cuts in September and December.
- Variations in policy expectations across UK, Canada, and Australia.
Implications for the U.S. Market
- Strong disinflationary progress and labor market rebalancing.
- Potential increases in unemployment rates with slower consumer spending.
- Watch for Q2 GDP estimates, PCE data, and insights from Fed speakers.
Equity Market Volatility
- Recent trends show rotation from major stocks to small caps, with divergence in company performance based on pricing power and debt levels.
- Upcoming earnings releases from major firms from Tech to Consumer related stocks.
- Continued disinflation and growth moderation could support equities and duration.
Transcript
Matt Jones
Welcome to "The Long & Short of the Week Ahead", a production of Eurizon SLJ Capital that takes a look at the macro-economic themes of the week ahead and has been recorded for professional investors.
My name is Matt, Head of Distribution for Eurizon SLJ Capital, and I'm joined by Neil Staines, Senior Portfolio Manager.
Welcome back, Neil. It's great to have you here with us again.
Neil Staines
Thank you very much Matt. It's great to be here.
Matt Jones
So this week we had the ECB policy meeting. So what were the main takeaways? And are there any implications for other developed market central banks?
Neil Staines
Yeah. Thanks very much, Matt, as you say. The ECB were unchanged at 3.75% as expected, and there were very noncommittal in terms of the future right path again, pretty much as expected. The tone of the meeting it was Lagarde's reference to "on the one hand and on the other hand" and explicitly on the one hand to concerns about persistence or upside risks to inflation, that domestic price pressures and services prices both remain elevated and headline inflation is expected to stay above target into 2025. That's the hawkish argument, if you will, and yet on the other hand risks to economic growth remain to the downside. The credit dynamics remain weak and investments also remains weak and that leaves the path of rates likely to the downside. There was an interesting Bloomberg headline, not long after the ECB press conference had finished suggesting that ECB officials consider if only one more rate cut this year is feasible. However, ultimately we still think that there will be rate cuts coming in September and December this year. Although the ECB feels it needs to keep a little bit of that flexibility, so it can maintain confidence on the trajectory of inflation back towards target at the forecast horizon. There is some crossover between what's going on in there and the US and in the UK, although my personal view is that the UK backdrop is much weaker and therefore will bring rate cuts coming much faster in the UK. It'll be very interesting as we get round to August the 1st as the Bank is being priced pretty much at 50 50 in terms of that elusive first rate cut. And more broadly within the DM space, just to highlight some of the uncertainties, Canada expected to cut next week, but some of the market looking to price in a rate hike out of Australia. So the only real clear implication for other central banks is that it's quite a complex backdrop at the moment, and that's only going to be made more complex. With the introduction recently of equity volatility.
Matt Jones
And what about the US? Of course, we've had lots of headlines this week driven both by markets and by politics. How are we thinking about the US and what are you looking for this week?
Neil Staines
Yeah, absolutely. We'll stay clear of the political debate at this point, but certainly the elections on the run-up to the US election, is going to have an impact. But ultimately it's the macro and the economics backdrop for us that has been very significant over recent weeks and months, even. It's the clearer disinflationary progress that we've seen in the US. More clear rebalancing of the labor market, the closing of the jobs gap, which ultimately leads us to a greater upside unemployment rates sensitivity to future decreases in labor demand.
That's something that we think is going to be very policy relevant going forward. And a more notable slowing of the consumer. And that's been shown via the data and by earnings projections. All of this together is very consistent with our long-held macro views. Disinflation and growth moderation.
Next week, we're going to get Q2 GDP, the first estimate. And it would be very keenly watching the consumption component of that, and certainly the headline level is also relative to what is equilibrium rate of expectation, certainly driven by the median Fed dot at around about 2.1%. We also get PCE next week, and that is expected to come down further to 2.4%. So further growth moderation, further inflation moderation, and we hear from a number of Fed speakers. With these changes, we would expect the tone of that narrative to much more on the side of concerns over the labor market, relative to concerns over inflation, and that shifts the balance of risks to the Fed, to the downside. Perhaps not quite early enough for the July meeting, but certainly for us by September.
Matt Jones
Now there's been an increased focus on the equity markets this week. And as you referenced earlier on, an increase in volatility. So how are we thinking about recent volatility? And what will be the key drivers of sentiment next week?
Neil Staines
Yeah. Great question, Matt. There's certainly been a big pickup in volatility that we've seen this week. From the political side with global sanction rhetoric and also from the earning season. Now we've seen a big rotation over recent sessions out of the biggest stocks or the magnificent seven is the primary example and into small caps and that kind of narrowing of the divergence that we've seen over recent months and even years. Now on a macro basis, this makes sense to us, the magnificent seven have strong pricing power and very cash generative and therefore higher rates and higher inflation are beneficial to the bottom line. Less so if you're a smaller company, where, with a reduced pricing power, an increased or higher relative debts. Those higher rates and higher inflation, a more punitive. So certainly as we've seen this pre pricing of rate cuts or a more complete pricing of the Fed September rate cuts, this divergence, perhaps makes a little bit of sense. But really next week is going to be a key focus for the equity space. We get earnings releases from Google and Tesla, on Tuesday IBM and Wednesday and Microsoft on Thursday. As well as some other stocks, less tech focused, but perhaps more indicative of the consumer trajectory in the form of Ford, AT&T, General Motors, General Electric, and even Visa. So some important releases next week and it will be very key to market sentiment and positioning into next week.
Ultimately, however we maintain our macro view that continued disinflation and growth moderation should ultimately be positive for duration as yields come lower. It should be a positive tailwind for equities. And negative for the dollar going forward. Even if we see an increased baseline volatility over summer months.
Matt Jones
Fantastic. Thank you for joining us once again and outlining your thoughts on the week ahead. I look forward to catching up with you again next week.
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