ECB now knocking on the door of last chance saloon
The ECB has cut its interest rates by 10 basis points. This has taken the main refinancing rate down to 0.05% (from 0.15%) and the deposit rate to -0.2% (from -0.1%). Furthermore, Mario Draghi also announced in his press conference that there would be an purchase of asset backed securities and covered bonds. Both these measures are aimed at the banks in an attempt to improve credit growth.
Draghi mentioned that the rates were now at the “lower bound” suggesting that further rate cuts would be unlikely. He also spent a portion of his press conference talking about structural reforms and fiscal policy as needing to back up the monetary policy actions of the ECB. He even suggested the need for “each of us to do our own jobs”, which is a thinly veiled finger pointing at the national governments to get their acts together and stimulate growth.
Effectively all that is left in the locker is full blown QE. Some would say this is an inevitable eventuality. In the Governing Council some were pushing for it at this meeting (although some were also pushing for less action than was taken suggesting a lack of unanimity at this stage). However he also left the door open for further measures should inflation expectations continue to decline, of which that Council members were unanimous.
So no QE for now, but it is certainly an option. It just realistically now only remains the only option. Watching bonds yields such as on the German 10 Year Bund could be a telling indicator now as to ho the market views the need for QE. Currently at 0.95% any further decline would suggest the market believes more needs to be done.
Forex pair Euro/Dollar fell to $1.3000 and held that key psychological level (within a few pips). On a technical basis this is doubly important as this was also the downside target from the huge head and shoulders top pattern that was completed in July on a move below $1.3475. Momentum indicator, the RSI, is also now more oversold than at any time since June 2012.
A further technical level has also been reached today. The 50% Fibonacci retracement of the July 2012 low at $1.2040 (triggered after Draghi’s “whatever it takes” speech) to the May high at $1.3992 comes in at $1.3016. The level around $1.3000 could now take on extra significance, as a decisive breach would open the next real support levels at $1.2750. However, the sell-off has reached extreme levels and the prospects of a technical rally are now increasingly high. The only problem is that the intent of the bears to sell the euro is so strong, whilst moving early on a technical rally can be a costly game and result in getting your fingers burnt.
STRATEGY: I still favour a medium/long term bearish outlook on the euro, but be careful on near term short positions as a technical rebound could easily be seen.