Final readings of Manufacturing and Services PMIs for September show the Eurozone economy grinding higher. Yesterday, Draghi reminded participants on the ECB’s conference call that the economic recovery in the Eurozone is “weak, fragile, and uneven”, but improving off low levels. We largely agree with that sentiment and given this unevenness we will note our bullish bias on German and UK equities. Looking out over the next three months we wouldn’t expect to see great gains in aggregate Eurozone PMI readings, rather slight ups and downs month-over-month on a slightly positive slope.
Our call remains anchored on changes in the slope of the data we track. Especially given what’s becoming a royal political mess in Washington, D.C., we think that actions of Obama and Bernanke to burn the USD and talk down growth will translate to EUR strength. As the chart below suggests, what’s good for the EUR/USD is also good for the DAX.
Surprisingly, Berlusconi decided to support PM Letta’s coalition government in a confidence vote yesterday, despite strong threats leading into the vote that his party would pull its support and split the fragile coalition. It’s now unclear how/if Berlusconi will have any influence on his PdL party while servicing a one-year sentence for tax fraud.
What’s clear is that while this decision will give the market a breather, we think there’s plenty of room for Italy to underperform on its fiscal consolidation targets and growth outlook over the next three months. The country’s budgetary issues should press into year-end – its decision to postpone/scrap a plan to increase the VAT and property taxes equates to ~ €3B in savings that the government must come up with in order to hit its deficit reduction target of 3% for this year. Further, Letta, needs to gain approval for the 2014 budget, which may prove challenging given continued pushback on austerity. On growth, the government last week revised down its 2013 GDP estimate to 1.3% from 1.7%. Given the coalition’s conflicts on budget reform and inability to issue the “tough” structural reforms, we think there’s more downside risk to the economy over at least the next three months.