European banks follow Turkish lira lower, but losses under control

While the inflation fear factor holds intact in key developed economies even though price indices remain anemic, high inflation has been a truly tragic story in Turkey for a while, forcing the central bank to raise interest rates by two percentage points and more than expected on Friday. Such surprising decisions from emerging markets rarely create any global shock waves, though when President Erdogan, who is a strong opponent to high rates, fires the central bank’s governor out of blue during the weekend, and the Turkish lira plunges by 15% in one day, that creates some risk-off, especially in the EU, where banks have a large exposure to Turkish financial markets.

Bank stocks in Spain, Italy, France, and the Netherlands sank between 0.5% and 6.0% early on Monday. However, losses were immediately recovered to a large degree, and despite the sharp downfall in real estate, the pan European STOXX 600 index managed to make tiny steps in the positive territory as bond yields in the eurozone remained below their recent peaks and the 10-year US Treasury yield pulled below the 1.7000% level after topping at 1.7450% on Friday.

Bond yields retreat; euro heals but risks remain

The weakness in bond yields transmitted to the dollar, helping euro/dollar to fill its small negative gap and crawl above the 1.1900 number. Yet, whether the euro can sustain any upside correction depends on the troubling vaccine distribution. For now, confidence in the AstraZeneca vaccine could be tough to rebuild despite European countries lifting the suspension that emerged from blood clots symptoms in several member states. Consequently, that could further slow the pace of inoculation at a time when infection cases are picking up steam in the region and key economies are resuming partial lockdowns for the third time. Germany’s virus cases will be closely watched after the country reported the highest number in two months last Thursday, with the Bundesbank warning of a sharper quarterly economic contraction in Q1 today. From a technical perspective, euro/dollar should avoid any decline below the 200-day simple moving average to survive any outlook deterioration.

US futures point slightly up; Powell remains in the spotlight

In the remainder of the day, US futures tracking the S&P 500 and Nasdaq 100 are signaling a mildly positive open on Wall Street while existing home sales for February will be the key data release of the day, though the numbers may not cause any volatility as the focus remains on the Fed. Particularly, Powell’s recent verbal interventions and his press conference following last week’s FOMC policy meeting hit a wall as the latest surge in Treasury yields suggests investors remain stubbornly confident that the central bank will change its policy earlier than it is pledging. It seems that markets are trying to direct the Fed, but the central bank is the one that has the last word on rates. Nevertheless, it would be interesting to see how patient the Fed will be as yields continue to rise at a fast pace. Today, Powell be speaking at the BIS Innovation summit with other central bankers including ECB’s Christine Lagarde and BoE’s Andrew Bailey, though his joint appearance with US Treasury Secretary Janet Yellen before the US House Financial Services Committee to testify on pandemic policies on Tuesday could be a bigger event.

In the meantime, dollar/yen remains supported above 108.40, while dollar/swissie is seeking shelter around the surface of the broken downward-sloping channel at 0.9245 following the rejection near 0.9320.

The Turkish lira is in a recovery mode, but it has still a long way to recoup its aggressive downfall against the US dollar and the euro.

In commodities, gold shows no sign of improvement around $1,730, while WTI oil futures paused Friday’s rebound at  $61.80/barrel.