Monthly Cash Review – EUR State Street EUR Liquidity LVNAV Fund, July 2024
Policy
At the European Central Bank (ECB) Governing Council (GC) meeting on 18 July, the deposit rate was maintained at 3.75%, in line with expectations.
Data
- Eurozone headline inflation for July increased to 2.6% from 2.5% in June, slightly above consensus expectations of 2.5%. This was driven by an uptick in energy inflation. Core inflation was unchanged at 2.9%, also higher than expectations of 2.8%. Services inflation dropped from 4.1% to 4.0%, while core goods inflation ticked up to 0.8% from 0.7%.
- Eurozone GDP for Q2 2024 increased by 0.3%, marginally better than consensus expectations of 0.2%. On a national level, Germany reported a -0.1% contraction, while growth was recorded in France (+0.3%), Italy (+0.2%), and Spain: (+0.8%).
- The composite purchasing managers’ index (PMI) declined from 50.9 in June to 50.1 in July, weaker than the consensus forecast of 51.1. Readings above 50 are indicative of expanding activity. The services PMI fell to 51.9 from 52.8. The manufacturing PMI declined to 45.6 from 45.8. The composite employment index edged down to 50.0.
- The unemployment rate for June increased marginally to 6.5%.
Outlook
After the first interest rate cut in June, as widely expected, the ECB maintained the deposit rate at its latest meeting. The narrative from ECB communications was inclined towards further easing. ECB president Christine Lagarde noted “one-off factors” in the recent inflation uptick but that underlying drivers of inflation are moving in the right direction. The ECB believes that wage growth is broadly in line with expectations, with President Lagarde emphasising that trade union pay deals that have already been agreed will result in slower wage growth next year. The ECB press release repeats that future decisions will be “data dependent” and made on a “meeting-by-meeting” basis. President Lagarde described the next decision for September as “wide open”.
From an economic data perspective, core inflation remained unchanged in July, rather than edging down as expected. While services inflation fell slightly, it continues to be high and has remained within a narrow range since November 2023. Concerns remain around the stickiness of services inflation with underlying price pressures still high, adding to worries that disinflation may have stalled. GDP growth for Q2 2024 was solid, but the composite PMI for July surprised to the downside and points to a deceleration in economic growth at the start of Q3. Activity indicators also suggest a slowdown in the recovery momentum. The labour market remains tight, although conditions are easing – the unemployment rate ticked marginally higher. The next wage growth data is expected in August.
The decision on whether to cut rates at the next ECB meeting in September will depend on the nature of data releases, including the August inflation print and whether domestic price pressures ease. The implied rate for September finished July at 3.42%, fully pricing in an interest rate cut. The implied rate for October was 3.31%, when a rate is fully expected. The year-end implied rate stood at 3.22%, suggesting a further rate cut is anticipated.
Forecast are based upon estimates and reflect subjective judgments and assumptions. There can be no assurance that developments will transpire as forecasted and that the estimates are accurate.
Fund
The weighted average maturity (WAM) averaged 43 days in July and the weighted average life (WAL) averaged 61 days. The majority of investments were made in high-quality credit issuers, out to three months. In order to add some duration, we made some selective investments into January (six months) and out to one year. Investments in sovereign, agency and government-guaranteed holdings were maintained to provide high credit quality and maintain liquidity buffers. Investments in bank floating money market securities, linked to the €STR overnight index, were increased, offering attractive spreads and diversification. Asset-backed commercial paper continued to be in good supply, offering flexible duration and attractive returns compared to vanilla paper.