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Potential Market Reaction to German Ifo Business Climate

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The last major market-moving data of this rather busy week for the euro is the Ifo Business Climate Index.

The expectation is for it to confirm the host of downbeat economic reports we’ve been getting over the last few weeks. The question now seems to be “how bad is it?”

At the start of the week, the Bundesbank announced that Germany had likely slipped into technical recession. In its monthly report, the bank projected a slight economic contraction this quarter.

Bundesbank tried to give a positive interpretation of their conclusion. They argued that it wasn’t a real recession, but with more technical terms.

Still, it’s not likely to support the euro, which might be nearing the end of its rise on Brexit deal optimism over the last couple of weeks.

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The Breakdown

The Ifo survey is rather similar in function to PMI, and often moves in tandem. However, it surveys CEOs, and sets the contraction-expansion line at 100. The trick for interpreting the data is to gauge the difference between the current situation and the outlook.

Survey respondents are asked how they expect their business (note that this is not the same as the economy) to be in six months.

The Business Climate Index is a combination of current and future prospects. For traders, however, the outlook of 9,000 of the largest German companies gives some insight into what we might see in the currency going forward.

What We Are Looking For

The headline number is the Business Climate Index. Expectations are for this to continue into contraction at 93.1 from 94.6 prior.

Note that this isn’t a flash reading. It corresponds to the survey conducted at the end of September. So, we aren’t likely to see much effect from the recent easing in trade concerns.

If the results meet expectations, this would be the worst performance in nearly a decade. So much so that it harkens back to the last great recession.

With such a negative outlook already expected, there isn’t much room for a reaction to the downside.

We’d have to see a substantially sub-expectations result to jolt the market. On the other hand, this raises the possibility of a surprise relief rally if the index would show a continuation of the “bounce” from August. So, something over 95 or even better, closer to 96.

The Components

We expect the Ifo Current Business situation to worsen a bit to 98.0 from 98.5.

But, let’s not forget that the survey was done immediately after the US won an arbitration case in the WTO that allowed for applying punitive tariffs on Europe over Airbus subsidies. In the environment of increasing trade difficulties, one would expect German businesses to feel things had gotten worse, as exports continue to struggle.

Projections indicate that the Ifo Business Expectations will actually increase to 91.0 from 90.8 prior. Just a technical improvement, but that’s the only kind that seems to be coming out of Germany lately.

The problem here is that if businesses continue to think that the environment won’t improve, they won’t be eager to increase spending, expand production and hire new people. All these things that are necessary to strengthen the euro in the medium term.

Most major German companies will have issued their third-quarter reports by the end of next week. This will give analysts a broader insight into German’s economy and prospects of getting out of the potential technical recession. In the medium term, Germany’s best hope for economic support might be the end of Brexit uncertainty if a deal finally gets through Parliament.

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