“The Emperor’s got no clothes on! ” Such a parable could have been written about the markets and the plans that European politicians continue to pontificate upon. Equities and other risky assets sold off sharply midway through yesterday’s European session after Wolfgang Schaeuble pricked the balloon of optimism surrounding this Sunday’s EU meeting. The German Finance Minister stated that the upcoming EU summit will not present a final solution for the debt crisis, but he later said he does expect decisions on bank capital and how to use the EFSF in a flexible way. Combined with Angela Merkel stating she is “dreaming” of a resolution and the markets promptly lost their nerve and clattered lower. These rallies are not built on solid foundations.

In the FX space this meant that the euro’s trip into the 1.13s against the pound and the 1.39s against the US dollar were short-lived and the single currency spent most of the afternoon being sold off fairly heavily. It’s continued to fall throughout the asian session as well as risk was sold following a poor reading of Chinese GDP. China’s economy grew 9.1% in Q3, the slowest since 2009, with the deterioration in the Eurozone seen as the main reason. There are also concerns that the Chinese banking sector is full of bad debts while funding levels for small businesses has also dried up in that past few months. Although everyone in the developed would kill for 9.1% growth the risk of a “hard landing” is a distinct possibility.

Some support has come to the single currency as Moody’s dampened speculation of an imminent sovereign downgrade for France. Rumours have been circulating for the past few weeks that a move on France was due soon but this not makes Moody’s and S&P who have reaffirmed France’s AAA rating. The agency said France’s AAA rating and stable outlook was backed by the economy’s strength and robust institutions (although there are possible weaknesses for the banking sector over the horizon) and therefore, it also warned the outlook might be downgraded over the next three months if potential costs from bailing out the banks and other Eurozone members further stretch its budget.

Today will be less of a binary day we suspect given the packed calendar of announcements, speeches, earnings numbers and debt sales. Germany’s ZEW October measure of economic sentiment is expected to deteriorate further to -45.0 from -43.3 while September CPI from the UK s expected to jump toward the 5% level, up from 4.5%YoY in August.

Earnings are due from Apple, Bank of America, Coca Cola ,Goldman Sachs, Intel, Johnson & Johnson, State Street and Yahoo while Spain is due to sell EUR5bn in short-term  debt while Greece will auction EUR1.25bn in 3-month bills. Belgium will also sell up to EUR3.6bn in bills.

We suspect that sterling may see some selling later in the day, particularly when Mervyn King speaks this evening, and we would believe that tomorrow’s Bank of England minutes may kick sterling lower as well.

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Latest exchange rates at time of writing