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ECB Cuts Rates, Dollar Rallies and Worries Investors


Today's financial recap and tomorrow's financial outlook.

The main event today was the ECB rate decision and it did not disappoint in producing fireworks. The ECB cut all of its three interest rates by 10bps, lowering its benchmark rate to 0.05% and its deposit rate to -0.20%. In his press conference, ECB President Mario Draghi said that this effectively brought the central bank to its "lower bound" meaning that it cannot lower its benchmark rate below zero. Although a fair number of economists expected this cut, the majority did not.

At the press conference, Draghi announced that the ECB would begin its ABS and covered bond purchase programs after its October meeting. He also opened the door for full Fed-style quantitative easing through the outright purchase of public (sovereign) or private (corporate) bonds. Presumably, because today's decision was not unanimous, it would require the convincing of certain Governing Council members. Draghi also pushed for fiscal authorities to step up structural reform efforts.

One notable market reaction was a significant selloff in the Euro. The EURUSD currency pair fell as much as 1.75%, or three and a half standard deviations. The US dollar index rose more than 1% and posted strong gains as it posted very strong gains against the Canadian dollar and British pound. Initially, the German sovereign curve steepened, due to a further reiteration that rates would stay low for the next five years, but longer-duration notes fell in sympathy to the weakness in US interest rates. The 10-year Treasury yield rose 5.5bps to 2.45%.

The ADP private payrolls report for August showed a net gain of 204K, worse than the expected 220K. Jobless claims remained near their average since April at 302K. The final economic report of the day, ISM services, saw its index rise to 59.6, the highest since August 2005, and ahead of the 57.7 expected.

US equity markets rallied early this morning following a report that stated the ECB would move ahead with its ABS purchase program at today's meeting. The S&P 500 (SPX) rose as much as 0.6% during the session. However, a few headlines discussing Russian tanks crossing the border into Ukraine and the persistently higher interest rates caused equities to sell off as much as 20 points. The SPX ended up completing a technical outside down bar, typically signaling the end of a trend. Energy stocks were very weak today - the worst performing sector - due to the strength in the dollar.

Tomorrow's Financial Outlook

The August nonfarm payrolls report is scheduled to be released tomorrow morning before the equity market opens. Economists are expecting a net gain of 230K jobs during the month. Should there be a payrolls gain of that magnitude, interest rates in the US will likely rise substantially as it will cause the Fed to prepare for an earlier normalization process. Equities will likely fall in this scenario. However, the ADP private payrolls report tends to have a high level of accuracy predicting the government release, which indicates we may see a miss from the consensus. The unemployment rate is expected to drop to 6.1% from 6.2% in the month prior.

The main report overnight will be the preliminary second quarter GDP report from the eurozone. Growth is expected to remain unchanged from the prior quarter and up 0.7% from a year ago. Up to this point, growth has disappointed for Italy, France, and Germany, which has caused estimates to be lowered for the broader area. The advance report showed no growth from the prior quarter.

There are no major earnings reports scheduled for tomorrow.

Twitter: @Minyanville

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