Markets Bring Forward ECB Rate Cuts Expectations — Talking Markets
Summary
Traders have moved swiftly to bet that the ECB’s interest-rate cuts will start earlier than previously thought after it signalled last week that rates may now have hit a peak.
Traders have moved swiftly to bet that the European Central Bank’s interest-rate cuts will start earlier than previously thought after it signalled last week that rates may now have hit a peak.
Focus is switching quickly to concerns about the eurozone’s fragile economy, though some analysts warn that inflation remains a major risk which markets are turning a blind eye to for now.
Money markets price in a first ECB rate cut towards the end of the first half of next year, having priced in a rate cut for September or October 2024 prior to Thursday’s rate decision, Refinitiv data show.
“The market is right to feel confident that it can rule out hikes, and the natural next step is to test the ECB’s guidance and explore earlier cuts," Jamie Searle, rates strategist at Citi, said in a note.
The ECB raised its key interest rates by 25 basis points, taking the deposit rate to 4.0%, and said they had now “reached levels that, maintained for a sufficiently long duration, will make a substantial contribution to the timely return of inflation to target."
Analysts say this is prompting markets to bet that “sufficiently long" may not actually be too long.
Citi now forecasts 100 basis points of ECB interest rate cuts in 2024, starting in June and bringing down the deposit rate to 3%.
Investors could increase or pull forward rate-cut expectations in the coming months if the eurozone’s economy slows rapidly in response to the ECB’s ten consecutive rate increases since July last year, which total 450 basis points.
“If the significant economic slowdown in the coming months continues to unfold as seems likely, markets can be expected to add to 2024 rate cut expectations, especially if core inflation turns lower during the autumn as is widely expected," Jussi Hiljanen, rates strategist at SEB Research, told Dow Jones Newswires.
Monetary policy lags—the delay between interest-rate moves and their impact on the economy—could be significant, he said.
The magnitude of these lags “could still be a surprise," with the speed of the economic slowdown determining the extent to which markets accelerate rate-cut expectations.
“Policy is working but lags seem to differ significantly between the countries, which constitutes the downside risk to the euro area growth outlook and may add to 2024 rate cut expectations," Hiljanen said.
However, inflation remains a major concern and some analysts warn that traders may be wrong in assuming that rates will come down soon.
“The ECB will apply a feature that markets do not possess, namely ‘patience’," Piet Haines Christiansen, Danske Bank Research’s ECB watcher said.
The risk of inflation staying high for longer than expected remains significant, as highlighted by the recent renewed rise in oil prices.
“There is a very plausible risk of the ECB staying at current rate levels for quite some time, as it still sees inflation ‘remaining too high for too long,’ perhaps even beyond our initial rate cut pencilled in for summer 2024."
It may also be wrong to assume that the ECB won’t raise rates again.
“We can’t say that now we are at the peak," ECB President Christine Lagarde said during Thursday’s press conference as she reiterated that the ECB’s future decision will be determined by upcoming economic data.
“We tend to believe that the ECB wants to stop at current levels, yet the door is not closed to another hike," Societe Generale’s rates strategists said in a note.
Money market forwards currently price 13 basis point of rate cuts by June 2024 and 22 basis points by July, according to Refinitiv data.
Write to Emese Bartha at emese.bartha@wsj.com
