European Equity Markets Upaset by Draghi's Soft Talk

The main market mover on Friday was the labour market report in the U.S.. We have scaled down our forecast for non-farm payrolls from 190k to 180k, given the drop in the employment component in the non-manufacturing ISM and weaker-than-expected ADP employment report. Our forecast remained above the official 165k consensus expectation, but the 'whisper' consensus has probably been lowered on the back of the subdued labour market data the past week.

In Europe, Germany released industrial and trade balance for April on Friday. We expect industrial production to fall, largely reflecting a payback on strong gain in the previous months. Weaker-than-expected factory orders released on Thursday also suggest downside risk on German industrial production.

On Friday, Chinese president Xi Jinping started a two-day meeting with President Barack Obama in California. We do not expect China's exchange rate policy to be high on the agenda, as China has delivered continued appreciation in recent months and opened up for faster liberalization of its exchange rate system.

We expect growth in oil-related industries to continue to support overall Norwegian industrial production. Danish portfolio flows are likely to show that Danish assets remained popular in April.

Selected market news

ECB President Draghi delivered nothing but soft talk at the ECB meeting on Friday, and scaled down expectations for an SME program. Markets reacted by sending yields higher and the money market curve steepened, but the most pronounced impact was seen in periphery spreads, which widened significantly (Portugal, Italy and Spain wider by 20-30bp in the 5Y and 10Y). The reason was a warning from Draghi to politicians that fiscal prudence is still needed. Markets interpreted this as a warning that if governments get themselves into new trouble, the OMT will not be available. We think this is not what Draghi meant to signal, and we believe the markets overreacted.

A combination of US initial jobless claims suggesting a pause in the labour market improvement going into June and Draghi's comments sent the EUR/USD above 1.32. The USD also lost against other major currencies as expectations for the employment report were adjusted downwards, and the timing of the Fed's QE exit pushed further into the future. The JPY/USD took a major move lower, which was extended after Finance Minster Aso's comments that he wouldn't intervene in the currency market. The JPY is now at its strongest level towards the USD since early April.

European equity markets did not like the message from Draghi, and stocks had a bad day. The sentiment improved somewhat in U.S. trading, but most major Asian indices are in red Friday morning, led by the Nikkei.

To Read the Entire Report Please Click on the pdf File Below.