Stock markets may be set for further gains as market participants become increasingly confident that the European Central Bank (ECB) will soon unleash further stimulus on the beleaguered euro area economy.
By Kevin Loane
Wednesday, August 27, 2014
Market speculation has pushed up the price of European bonds, sending yields to record lows, while weighing down on the common currency. Global equity markets have reacted positively to the prospect of increased liquidity from the world’s second largest economic bloc.
The S&P 500 rose slightly after the opening bell as the benchmark index seeks support above the 2000 benchmark. The index was up 0.10% in early trading to 2002.11. Shares in Burger King (BKW) opened in the green to 31.09 after yesterday’s 4.1% decline. They have risen 15% over the past week as traders digest the announcement of a merger with Tim Hortons (THI). Shares in the Canadian coffee-maker, meanwhile, were down 0.27% to 80.83 after an 8% rise yesterday. The stock is up more than 30% since the agreement was revealed.
Financial markets have performed well following speeches from leading policymakers at last week’s Jackson Hole Symposium. Comments by Federal Reserve Chair, Janet Yellen, were well-received, but a speech by European Central Bank (ECB) President, Mario Draghi, was interpreted as particularly bullish. The ECB chief strayed from prepared remarks to highlight dwindling medium-term expectations for inflation in the euro area, and note that while many of the factors that had resulted in a downturn in price pressure were temporary ‘not all of them’ were.
His off-the-cuff utterances were taken as a sign of impending stimulus. The ECB reduced its two key interest rates by 10 basis points in June. The deposit rate is now -0.10% while the refinancing rate stands at 0.15%. Some believe that both could be reduced by a further 10 basis points in due course. Others expect policymakers to announce a belated quantitative easing program, perhaps focusing on private sector assets. Market participants increasingly expect policymakers in Frankfurt to do something.
Increasing speculation about further monetary stimulus has boosted government bond prices. The ten-year benchmark bund rose, sending the yield further below 1% to 0.92%. And Germany’s yield curve is now negative up to three years out. The boost to bonds has benefited member states across the currency union sending yields to record lows, including in previously ailing markets. The yield on an equivalent ten-year Spanish bond has declined by around 200 basis points in 2014 and may soon cross below the 2% level. The perceived lower-for-longer interest rate environment has also supported European equities, which have risen by more than 4% over the past week.
Any benefit for bonds and stocks has weighed down on the common currency. The euro fell below 1.32 yesterday, and after declining in Asian trading touched an eleven-month low of 1.3152 before rising slightly thereafter. The common currency has been weighed down by poor economic fundamentals and the associated outlook for monetary policy. The euro’s loss has been the dollar’s gain. Indeed, a measure of dollar strength, the .DXY index, rose to a thirteen-month high earlier today. So far, dollar strength has not caused too much concern about currency headwinds, with the greenback and stock markets rising in unison.
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