Europe-wide outlook downgrade sours mood

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Yesterday we alluded to a closely choreographed week which European leaders have planned to bring confidence and stability to their region. This was working well through the European session until, at around 19.00 UK time rumours that the ratings agency Standard & Poors were looking to put a negative outlook on the 15 European nations who didn’t already have one (Cyprus and Greece were already rated as negative). This was confirmed at 21.00 UK time with a formal announcement that the entire region is on watch for a downgrade as a result of politicians’ failure in finding a solution to the debt crisis alongside tighter credit conditions and the probability that the Eurozone will fall into recession through Q4. So, that includes Germany, France and the Netherlands alongside Finland among others as in jeopardy of losing their AAA rating.

Earlier in the day we had seen risk move higher as Merkel and Sarkozy’s press conference was well received by the markets. Merkel gave way on private bondholder involvement in losses, marking the Greek example as a one-off, so as to show that Europe was a “safe place to invest”. They also agreed to bring forward the launch of the European Stability Mechanism (ESM) to next year from 2013. This is a permanent rescue fund for the Eurozone and will act as an intra-European IMF to help in future crises. The EFSF looks dead in the water following the rating agencies overnight moves and headlines that say that the future of the Eurozone’s rescue mechanisms look uncertain are completely true.

Risky assets are off heavily this morning as a result of the ratings agency moves with euro lower against its crosses, equities back in the red and core European bond yields all moving higher.

Away from the debt crisis, problems surrounding growth in the EU were also made evident yesterday as the services PMIs from the EU showed that the first quarter of recession in the Eurozone will be Q4 of this year. The composite index (combination of manufacturing and services) was below 50.0 for the 3rd month in a row and unless German consumers go bananas at the tills for Christmas, then a negative GDP figure is certain.

The UK services sector is not giving up without a fight it seems and is now the fastest growing in Europe although this is not difficult given the problems on the continent. We are unsure however how much of this increase is as a result of pre-Christmas sales on the High St as this will simply drag demand forward from later in the year. That being said, this does solidify expectations that Q4 GDP in the UK is unlikely to be negative but we should not expect any great strides either. Our expectation is for growth of 0.1% in the
last quarter of 2011.

Overnight we saw the Reserve Bank of Australia cut interest rates by 25bps for the second month in a row. We expect a rate cut from the ECB on Thursday at their meeting while the Bank of England are unlikely to move. To register for Thursday’s monthly “Bank of England and European Central Bank Webinar”

As if to emphasise Standard and Poors’ fears over a lack of growth in the Eurozone, today we receive the latest GDP figures from the area with the market expecting a QoQ rise of 0.2% and a YoY of 1.4%. The rest of the data calendar is quiet today although, as Europe has been for a while now, political and rating agency comment on last night’s announcements are likely to

Indicative Rates Sell Buy
GBPEUR 1.1672 1.1700
GBPUSD 1.5612 1.5638
EURUSD 1.3363 1.3386
GBPJPY 121.41 121.68
GBPAUD 1.5288 1.5317
GBPNZD 2.0075 2.0103
GBPCAD 1.5884 1.5911
NZDUSD 0.7768 0.7792
GBPZAR 12.60 12.65
USDZAR 8.0596 8.0930
GBPPLN 5.2027 5.2327
EURJPY 103.85 104.11

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