EU PMIs Offer First Signs of War Impact

Markets will focus this week on flash PMIs to gauge how rising oil prices are affecting economies vulnerable to energy supply shocks, such as the EU, with the data potentially confirming expectations for rate hikes.

The Market Moving Points

• Flash PMIs provide the first insight into price behaviour in the Eurozone, one of the economies most vulnerable to the oil supply shock from the Middle East.
• Markets anticipate two to three rate hikes as the ECB addresses higher prices.
• The euro is under pressure, as higher interest rates and inflation could slow the economy and hurt investor demand for euro-denominated assets.

How Bad is the Energy Crisis?

European indices recorded a third week of losses, the worst performance in nearly a year, as investors speculate that the ECB will be forced to hike rates by as much as 50 bps by December. The combination of higher inflation and interest rates is expected to stifle the continent's hesitant rebound at the start of the year. Meanwhile, the euro has continued to weaken against the dollar to just below the 1.1600 handle after attempts to move away from 1.1410, a level it hasn't been at since July of last year. If rising costs from the war in the Middle East stifle growth, investors would likely continue to sell off euro-denominated assets, keeping stocks and the EUR/USD under pressure. Already, European natural gas prices have almost doubled since the end of February, rising to levels not seen since 2022, despite relatively mild weather on the continent. With European inventory levels below average for this time of year, investors worry that damage from the war will keep LNG output subdued even if the Strait of Hormuz is reopened soon.

Among the very first data to come out reflecting the period after the war began are PMI figures, scheduled for release on Tuesday. The survey is still underway, and the flash reading provides partial results, but it could offer important insight into price fluctuations and whether they have led to demand destruction. Investors consider Europe to be much more exposed to higher energy costs, given that the EU imports over 90% of its crude needs and 57% of its total energy consumption. Prior to the start of the war, Eurozone PMIs were expanding and accelerating, with economists predicting Q1 GDP to increase by 0.4%.

Assessing ECB Tightening

The Eurozone flash March manufacturing PMI is anticipated to fall back into contraction to 49.5 from 50.8, while services are expected to hold on to expansion at 51.0 but decline from 51.9. Composite PMI is projected to remain above 50, indicating expansion, at 51.1, but down from 51.9. However, traders might be more interested in changes in the pricing component to gauge how much inflation pressure is already being felt. Economists say it will take time for the effects of the war to be reflected in prices, but PMI figures could indicate how quickly energy costs are affecting business behaviour and outlook. Brokers now expect as many as three rate hikes this year, and higher PMI prices could weaken the euro if that outlook is confirmed. On the other hand, signs that prices aren't yet being affected could support the single currency if the market takes it as a signal that the ECB won't be under immediate pressure to hike.

EURUSD Bulls Fail to Reclaim 1.1600

After rejecting the middle VWAP line above 1.1600, EURUSD is under pressure early in the week, with the next major support under 1.1500 sitting at 1.1400, which aligns with the lower VWAP. Prices falling there could form a double bottom with the last July low, as the final attempt failed to reach the target for 10-15 pips. On the flip side, breaking past 1.1615 could open the door to the upper VWAP at 1.1734 if 1.1670 and 1.1700 give way to bulls, which could lead to a sideways consolidation.

Source: SpreadEx | EURUSD, Daily Chart