Initial Take on Draghi: Dovish

Draghi is sounding a dovish note and the euro has come off accordingly. He has indicated that fixed rate, full allotment repo operations will continue as long as necessary. Although he sticks an economic recovery in H2, he underscores the downside risks. His comments also seem to reflect a compromise between those that wanted an immediate cut and those who are more hesitant. The compromise is that the ECB appears to be putting much weight on the near-term economic data.

The fact that small and medium sized businesses in the region, especially in the periphery, are facing tighter credit conditions. Draghi recognized this, but not only did not unveil a new initiative to address this "fragmentation of the transmission mechanism", but also seem to suggest it was related to credit risk. This does keep the door open to some new measures late in Q2 that could include accepting loans to SME as collateral for ECB funds.

Draghi is also critical of government and the slow action on structural reform. The Outright Market Transaction scheme was to buy government officials some time to enact reforms, but they seemingly have not maximized this opportunity. Draghi acknowledged that asset purchases are more difficult for the ECB.

The market has responded to the dovish elements of Draghi's comments. The euro fell to $1.2740, almost a fully cent in reaction to his prepared remarks. Our next target is near $1.2680. We look for $1.20 by year end. Bond markets have rallied and we note that the German and French bond yields have fallen to new record lows. Despite a healthy auction today, Spanish bonds, especially at the long end, are trading more heavily, and lagging behind the other peripheral bonds now.