ECB preview: Draghi and co in battle of the doves

The next ECB meeting is scheduled to take place this Thursday 7th March; the latest policy decision along with the latest ECB staff forecasts for economic data will be announced at 1245 GMT, with the all-important press conference from President Draghi coming at 1330 GMT. While economists are forecasting no change to policy at this meeting, financial markets have been leaning towards a dovish outcome, hence the recent weakness in the euro.

But are financial markets correct? And what policy tweaks should traders’ be looking out for?  While interest rates are expected to remain unchanged, forward guidance is a critical component of the ECB’s message at this meeting. The bank has indicated that interest rates will remain steady until “summer 2019”, however, as we hurtle towards the summer and after a spate of weaker economic data in Q4 2018 and moving into Q1 2019, there is some expectation that the ECB may change its forward guidance to suggest a rate rise may not materialise until later in 2019 or into 2020. Complicating the market’s expectations of what to expect from this meeting is the latest survey data coming out of the Eurozone for March, which surprised to the upside when it was released earlier this week.  On balance, we believe that the ECB is unlikely to shift its forward guidance at this stage, and the Bank will only commit to keeping rates at historically low levels until this summer.

Subtle shifts in language are key

Also worth noting, the ECB’s Asset Purchase Programme ended late last year. While we do not expect any revival of this even though the Eurozone’s growth prospects have shifted to the downside, Draghi  is likely to keep the door open to further policy support down the line if economic conditions warrant intervention. This means that traders need to watch out for subtle shifts in the language of the statement, as it could mean large price moves for euro-based assets.  

There is a small chance that the ECB may announce a second programme of cheap loans for its banking sector, which would be akin to the TLTRO programme. However, although European banks are undoubtedly challenged, we doubt that the ECB will announce another extension of this cheap bank-funding programme until later this year, possibly at the June meeting. The ECB has already announced a joint funding initiative with the Bank of England to protect Europe and the UK’s banking sectors in the event of a no-deal Brexit, and we believe that this will be the only new funding package spoken about at this meeting.

ECB staff forecasts casts shadow of gloom

One area where big change is expected is the ECB staff economic forecasts, where growth and inflation forecasts are expected to be cut yet again. The current ECB forecasts for economic growth in 2019 and 2020 are 1.7% for both years, the 2019 figure was lowered a notch from 1.8% in September. We believe that growth could be slashed sharply to the region of 1.2-1.5%, which is one reason why the euro is extending losses vs. the USD, the pound and even against the yen as we lead up to this meeting.

Staff forecasts are undoubtedly important, however, President Draghi may not acknowledge risks to the Eurozone’s growth during his press conference, apart from saying that the Bank is willing to look through short-term weakness in the data, while noting that the ECB remains ready to take action to stimulate the economy if needed. However, watch Draghi’s tone carefully, if he suggests that the ECB is concerned about the economic slowdown in the currency bloc this would be considered a dovish shift, which could weigh on the euro, but may give European stocks a boost.

Although we doubt that this meeting will be a mine of information about the future actions of the ECB, it is still likely to be a big event for the euro and European stocks. See below for our market ideas ahead of this week’s meeting.

The euro:

For those of you trading the euro ahead of the ECB meeting, we urge caution around the time of President Draghi’s press conference. We expect whipsaw price action as the market tries to decipher if the President is overly dovish or neutral at this meeting. If we get a neutral assessment from Draghi and co. then the euro may see a recovery, particularly against the USD. Key levels to watch on the upside include 1.14. the high from the 26th February, and then 1.1480-  the high from the end of January. After a long period of weakness for the euro, any “positive” comments from Draghi could be pounced upon and we may see the recent low around 1.1250 mark a medium-term bottom for EUR/USD.

The Dax

The German Dax index may experience sensitivity to the ECB meting in the short term. The German index had a torrid Q4, however it has had a strong start to 2019, rising from 10250 to approx. 11650. We believe that weaker than expected ECB staff forecasts are already being priced into the Dax, along with some lower growth forecasts from key German companies. This has seen the index sink to 11575 on an intra day basis. This level is key short-term support; a break through here opens the way to a sharper decline back to 11420, the low from 28th Feb.

However, if, as we expect, the ECB downplays the weaker growth forecasts the index may see some whipsaw price action, before bargain hunters come in to pick up the German index at the lows. Thus, we believe any move back towards 11400-11420 could be a key support level and an area that generates buying interest.