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- Can retail sales boost UK GDP?
- Could the German PMI surprise on the upside?
- Spain's painful stock market collapse
- IMF's new resuce funds greeted with caution by the market
The pound rallied strongly today on the back of large upside surprise in retail sales figures for March. Retail sales rose 1.5% last month vs. 0.4% expected due to a boost in weather-related spending on clothing, footwear and gardening tools. While the unseasonably warm March hasn't followed through to April, which has been fairly dismal across the country, this data comes at a pivotal time as next Wednesday GDP is released for the first quarter.
So will the great British consumer save the day and help the economy avoid a recession? This is less clear-cut. While the pick-up in retail sales is encouraging, growth could be weighed down by a sharp drop in construction output. Added to that, the correlation between retail sales data and the measure of consumption in the national accounts (which feeds into GDP) is not actually that strong. Various consumption based indicators including consumer confidence data, new car registrations and the BRC sales survey have all picked up recently, which suggests an improvement in consumption after a dismal start to the year. However, this may not boost GDP data that much since consumption picked up strongly in Q4 2011 and it is not certain that gains will have been sustained in the first quarter of this year.
Overall then, we agree with consensus that the UK could have narrowly avoided recession last quarter although the increase in GDP could be a meagre 0.1%. However, the GDP data may be under-estimating the actual underlying strength of the UK economy as the Bank of England minutes pointed out when they were released earlier this week.
Sterling bulls jumped on the back of the surprise retail sales results and pushed GBPUSD above 1.61 at one stage. However, gains have been capped around 1.6110 - a key resistance level - where this cross started to look overbought. A weekly close above 1.61 is a key bullish signal and could lead to further gains to 1.62 and even 1.65. The Bank of England is still in cautious mode, but the shift in Adam Posen's stance from uber-dove to neutral highlights the change in the economic position in the UK, it also rules out the prospect of more QE, which is generally pound positive.
The pound's performance against the euro was more muted after the German IFO index nudged up a notch to 109.9 in April from 109.8 in March. The expectations index remained steady at 102.7, the highs from the middle of last year. The detail of the report showed an improvement in the manufacturing sector and continued strength in the retail sector. This index is an important indicator of corporate health and the expectations index has a strong correlation with German GDP, which points to above-trend growth at the start of Q2 2012. The German IFO and ZEW surveys have diverged from the PMI index, which has been weak in recent months. The PMI reading for April is released next week, and the sustained strength in the ZEW and IFO suggests the risks are to the upside. The market is expecting the manufacturing index to rise to 49 (still in contraction territory) and the services index to rise to 52.4 from 52.1 in March.
The markets are still watching Spanish bond yields like a hawk. Yields spiked above 6% earlier, but have since retreated to the 5.95% level. This is still uncomfortably high; however there seems to be buying interest in Spanish debt when yields reach 6%, which is acting as a key resistance level. Next week Spain releases mortgage data for February. The January figures were awful, the number of new mortgages on houses fell 41.3% YoY in January. Retail sales are released on the 27th along with the unemployment rate for the first quarter. Since Spain has been dragged into the sovereign debt crisis its economic data is now all the more significant, so we would expect volatility in the euro and euro-based assets on these releases.
Interestingly the Spanish stock market has felt the most punishment from the renewed bout of sovereign strains. It is now a mere 200 points away from its post-Lehman Brothers' low. The same levels of stress are not evident in the sovereign debt market or the FX market, which is an interesting development. Spain's banks have been punished heavily, but yet sovereign debt hasn't moved into critical territory (above 7%). We will have to wait and see if the strains lead to full blown risk aversion in the Spanish bond market in the coming weeks.
We will write in more detail on the French Presidential election later today but we don't hold out much hope for either Hollande or Sarkozy to deal with France's deep-seated economic problems, and so we expect the French-German yield spread to continue to widen for as long as sovereign fears remain in the currency bloc.
That's not the only risk event this weekend. The IMF/G20 meeting is taking place in Washington. There have been some positive developments regarding the increase in the size of IMF funds to target the Eurozone sovereign debt crisis. Reports suggest the $400bn that Lagarde wanted to raise has already been pledged. This hasn't caused a rally in the euro possibly because the market has already seen the euro recover after dipping below 1.30 earlier this week, so more official action to support the currency bloc has already been priced in. Combined with the EU's EU800bn EFSF/ESM facility the total rescue funds available will be approx.EU 1.1 trillion. This is considered by some to be enough to ring fence Spain and Italy, however if France gets into trouble then more funds will be necessary. Thus every breakthrough in Europe's sovereign debt crisis is given a cautious welcome by the market at this stage.
EURUSD is very much range-bound as we lead up to the French elections. 1.3050 is key support while 1.32 is stemming the bulls. A good showing for Sarkozy at the French election along with the extra IMF rescue funds could be positive for the euro and may cause a break above 1.3220 opening the way to 1.33.
We will be watching the weekly close in gold tonight. The yellow metal has been fairly range-bound this week but is looking vulnerable as we approach $1,614.70, a key support level - the bottom of the weekly Ichimoku cloud. A break below here is a significant move in gold, and would be the start of a technical downtrend.
Kathleen Brooks| Research Director UK EMEA | FOREX.com
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