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Chart of the Day: EU bank index

While all eyes turn to tonight’s opening remarks at the Jackson Hole Economic Symposium, the manufacturing and service PMI data from Europe will be a key event risk for those holding EUR exposures and European indices.

EU banking index

We see the aggregated eurozone manufacturing and services PMI data at 18:00 AEST. However, with German Q2 GDP due 27 Aug and expected to contract 0.1%, the second quarter of economic contraction signals a technical recession. We’ll be keenly watching German manufacturing data (due 17:30 AEST), with the consensus calling for the index fall to 43.0 (from 43.2) — the lowest since Markit created the index. Any reading below 50 shows contraction, and, above, expansion.

I have the EU bank index on the radar, because the interest rate markets are pricing a 44% chance that we see the European Central Bank cutting interest rates by 20bp to -60bp at their 12 Sept meeting. Weak data in Germany and around Europe will simply add weight to that view.

The issue with cutting rates is that negative interest rates have deeply impacted the profitability of the European banking sector, so much so that many in the market are genuinely concerned about the long-term sustainability of the sector. As we can see from the chart, the setup looks awful and sits at multiyear support. A break here, and it wouldn’t surprise to see European indices such as the GER30 retest recent lows. The ECB will, therefore, have an incredibly hard balancing act to pursue.

While there’ll be calls for renewed asset purchases (QE), the ECB will also be faced with leaving rates unchanged and, subsequently, not doing enough, or cut and cause further headwinds to the banking sector.

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