France's rating stays untouched, and Trump avoids escalation

France's rating remained untouched, and Trump avoided escalation.

France's troubles and weak euro area data put the euro under pressure in the first half of last Friday, and there was a clear reason. The eurozone manufacturing PMI for October fell to 52.4 from 52.9, while services activity slowed sharply from 53.0 to 51.7—close to the 50 mark that separates expansion from contraction. The composite PMI, combining manufacturing and services, dropped from 53.1 to 51.9.

The market's main focus, however, was on US data, and those prints looked solid: the US manufacturing PMI came in at 56, and services matched economists' forecasts at 57.9. The large gap between the eurozone and the US worked in the dollar's favor. UK data were better than expected: the UK manufacturing PMI rose to 52.8 and services to 53.1, which helped sterling hold its ground in the morning.

Attention then shifted to France. Recall Saturday's "Act II" protests: the interior ministry put nationwide turnout at about 410,000, including 110,000 in Paris. Authorities deployed tens of thousands of police, armored vehicles, helicopters, and water cannons, closed major Paris museums, and allowed only one authorized route. Police used tear gas in several cities, nearly 1,000 people were detained by evening, and late reports mentioned looting. But the scale was far smaller than the previous week, when roughly 3,000 shops were ransacked. That restraint mattered for the euro: calmer weekends eased some pressure, and the market opened in Asia with a gap up.

Ratings agencies did not add to the strain. Moody's on Friday kept France's rating at Aa3 with a negative outlook, surprising some who had expected a downgrade amid budgetary and political fragmentation. S&P likewise left its rating unchanged; its next review is scheduled for late November. These decisions are more of a postponement than a vote of confidence, since Paris still needs to prove the budget is deliverable and unions have already called a strike for November 5.

A second easing factor was the Middle East. Late last week many outlets warned Trump might launch a new operation against Iran, but that did not occur. Over the weekend he said he had the means to end the conflict quickly, but ahead of the November 3 midterms the US leader clearly does not want to escalate — especially with Brent and WTI above $100. An aggressive operation would push energy prices and inflation higher (including gasoline and diesel), and remember Russia is already shipping diesel to the US. Media fears proved unfounded, which also supported the euro and the pound.

Now to the calendar. In the morning UK retail sales data for September are due: after a 0.5% rise in August (and a -0.5% in July), the consensus sees only a -0.1% dip, which could partly support sterling. If the print disappoints substantially, the pound will likely weaken further versus the dollar. Preliminary October PMIs are also scheduled: manufacturing is forecast at 51.8 (from 51.9), services at 51.8 (from 52.1), and the composite slightly lower. Weak readings could drive sterling's downside toward the end of the week.

Similar reports arrive for France, Germany, and the euro area overall. Eurozone manufacturing for October is forecast at 52.7 (from 52.9) and services at 52.6 (down slightly). Economists expect little change in the aggregate picture. But recent releases show energy-driven inflation is hitting sales and production in Germany and the euro area, so disappointing data could trigger a larger euro drop and continue the correction that began yesterday.

For the US, manufacturing PMI is forecast at 55 (versus 55.9 prior) and services at a strong 58—recall the sector was contracting at 49.8 in March before rebounding sharply. The University of Michigan consumer sentiment index is expected around 46.3, roughly unchanged. Inflation expectations may be revised up—economists' forecast is 4.7%—and if higher, dollar demand could strengthen at week's end.

EUR/USD: I mark 1.1207 as my buy level on a false break; from there expect a move to 1.1231. I anticipate more aggressive sellers at 1.1231, so shorts there are only on failed holds. If no buyers appear at 1.1231, wait for a test of 1.1259, where I would consider selling on a failed hold or shorting a bounce from 1.1298 for a 15–20 pip move. If 1.1207 fails to attract buyers, we are likely to revisit last week's low near 1.1186; longs there only on a false break, with a backup buy from 1.1155 for 25–30 pips.

GBP/USD: The pound retains upside potential. Bulls must hold 1.3361; a drop to that level with a false break is a buy toward 1.3390. A break and hold above 1.3390 opens the way to last week's high at 1.3416, where I expect stronger bear activity. The far target is 1.3437, where I would sell rallies for 20–25 pips. Shorts from 1.3390 and 1.3416 are only on failed holds. If bears break 1.3361, we likely test 1.3330, where buys are only on failed holds, or wait for a bounce from 1.3299 for 25–30 pips.

I lean toward the view that the euro has a better chance to recover some Friday losses early in the week, since France performed better than feared. But without supportive data, the rally will be fragile, and Germany's IFO could cool it. The pound looks a bit more resilient given Friday's UK data.