Emergency ECB meeting lifts Europe, Fed ready to kick off big

LONDON/SYDNEY (Reuters) – European markets rebounded on Wednesday on news that the European Central Bank will hold an emergency meeting on the recent bond sale before what is expected to be the biggest hike in US interest rates since then. 1994.

Hopes of a quiet run to what is expected to be a three-quarter-point rise by the Federal Reserve later dashed, as the unexpected meeting of the European Central Bank – less than a week after its last scheduled meeting – sparked a rush of activity.

The euro jumped nearly 0.75% to $1.0487, pushing the dollar index off a 20-year high in the process.

Italian 10-year bond yields, which rose to an 8-year high as worries over euro zone debt returned, are back below 4% and are on track for their biggest daily drop since the beginning of March.

The Italian stock market also jumped 2% as banks jumped 6%. Europe more broadly jumped 0.5% (.stoxx) While the Euro also hit a 16-month high against the British Pound as it struggled with the Brexit crisis once again. / FRX

“The best laid out plans for the European Central Bank and President Lagarde to normalize policy in an orderly fashion have just entered the bond market reality,” said Kate Jukes, strategic analyst at Societe Generale.

“The big question is whether (policy normalization) is possible or are we stuck in the same old world where we need some kind of asset purchase program to keep the bond market together,” he added.

Concerns about rising borrowing costs and global inflation have been plaguing financial markets throughout the year.

Economists fear that the Fed’s aggressive actions in particular could push the world into recession, and the degree to which the US central bank subsequently raises interest rates is closely watched.

Treasury yields are at their highest levels in the last decade and the dollar is their highest in 20 years as futures indicated it is close to sure that the Fed will raise 75 basis points to the 1.50-1.75% range later Wednesday. Read more

This will be the largest increase since 1994, and markets have already recorded rates of up to 3.75-4.0% by the end of the year.

“Against the backdrop of rising inflation, rising rates, and mounting recession fears, the S&P 500 has seen its worst start to the year since 1962,” Goldman Sachs analysts said.

“The next peak in inflation will probably not be enough to see the bottom, and previous similar pullbacks only ended when the Fed shifted toward easier policy.”

This may be some time away, so they recommend investors to reduce the portfolio duration and increase exposure to real assets.

With prices higher, a few brave investors, also backed by the European Central Bank, were looking for bargains and S&P 500 futures rose 0.7%, while Nasdaq futures rose 0.75% and Dow futures rose 0.4%.

MSCI’s broadest index of Asia Pacific shares outside Japan (MIAPJ0000PUS.) It closed almost unchanged, but fell sharply during the week.

Japan’s Nikkei Index (.N225) It lost 1.1%, although sentiment was helped by a survey that showed an improvement in confidence among Japanese manufacturers. Read more

Chinese stocks (.CSI300) It bucked the trend with a gain of 1.3%. The data on China’s retail sales and industrial production for May were slightly better than expected, but still showed the impact of the coronavirus shutdowns. Read more

Authorities in Beijing said on Tuesday that the city was in a “race against time” to control its most serious outbreak since the epidemic began. Read more

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The European Central Bank’s move allowed bond markets everywhere to rally after the latest hits, with 10-year Treasury yields falling to 3.43% and off Tuesday’s peak of 3.498%.

Two-year bond yields settled at 3.37%, after touching their highest level since 2007 at 3.456% overnight. With many US borrowing rates tied to yields, financial conditions had already tightened significantly there even before the Fed hike.

Treasury yields are also a benchmark for bonds around the world, so financial conditions are shrinking pretty much everywhere. This is a headwind of strong consumer spending, while putting pressure on emerging market countries that borrow in dollars.

It also tends to strengthen the US dollar, which reached a 20-year high against a basket of currencies before the European Central Bank news, driven by big gains on the low-yielding Japanese yen.

The dollar was trading at 134.66 yen, having reached highs visited in 1998 at 135.60.

The latest gains came as the Bank of Japan ramped up its bond purchases to keep yields near zero, even as policy tightens in the rest of the world. Read more

However, massive pressure on the yen and bonds has fueled speculation that the Bank of Japan may have to adjust its yield control policy at Friday’s meeting. Read more

Higher yields and a stronger dollar weighed on gold, which was near a one-month low of $1,814 an ounce.

Oil prices rose after the Organization of the Petroleum Exporting Countries (OPEC) stuck to its forecast that global oil demand will exceed pre-pandemic levels in 2022.

Brent crude rose 31 cents to $121.48 a barrel, while US crude rose 30 cents to $119.23 a barrel.

Additional reporting by Mark Jones in London and Wayne Cole in Sydney; Editing by Angus Maxwan

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