TLDR:
- Global bonds rallied as traders bet on ECB interest rate cuts
- French bonds led the rally, with 10-year yield at lowest since March
- ECB’s Olli Rehn hinted at possible rate cuts in upcoming policy meeting
- Euro-area inflation eased below ECB’s 2% target for first time since 2021
- Concerns rising about German economy, particularly manufacturing sector
Global bond markets experienced a rally on Tuesday as traders increased their bets on potential interest rate cuts by the European Central Bank (ECB) this month.
The surge in bond prices comes amid growing signs that the European economy may need looser monetary policy to stimulate growth.
French government bonds led the rally, with the 10-year yield dropping to its lowest level since March. The movement in French bonds was particularly noteworthy given the country’s ongoing political challenges. U.S. Treasury bonds followed suit, with the 10-year yield decreasing by four basis points.
ECB policymaker Olli Rehn added fuel to the speculation by suggesting that the central bank would consider cutting interest rates again at its upcoming policy meeting. Rehn’s comments align with a growing trend among ECB officials who have been hinting at the possibility of consecutive rate reductions.
The shift in market sentiment reflects a broader reassessment of the global easing cycle. Traders are now pricing in more aggressive rate cuts than previously anticipated, not only in Europe but also in the United States.
The market is currently factoring in a one-in-three chance of another half-point cut by the Federal Reserve in November.
Recent economic data has supported the case for monetary easing in Europe. Euro-area inflation eased below the ECB’s 2% target for the first time since 2021 in September, indicating that price pressures are subsiding. This development, coupled with signs of economic cooling, has strengthened the argument for looser monetary policy.
Germany, the largest economy in the eurozone, is facing particular challenges. The outlook for its manufacturing sector is bleak, and the government is expected to lower its economic growth forecast for the year. These concerns have contributed to the growing expectations of ECB rate cuts.
In response to these economic signals, several major banks have revised their forecasts. JPMorgan Chase & Co., Goldman Sachs Group Inc., and Barclays Bank Plc now anticipate the ECB will cut rates in October, earlier than their previous December projections.
The bond rally was further intensified by speculation surrounding France’s fiscal policy. There are expectations that newly appointed Prime Minister Michel Barnier may announce up to €18 billion ($20 billion) in additional taxes in his first speech to parliament. Such a move would align with the European Union’s demands for fiscal consolidation.
Despite the growing consensus around rate cuts, some voices in the financial world urge caution.
BlackRock Inc. CEO Larry Fink suggested that the market might be pricing in too many interest rate cuts from the Federal Reserve, given the continued growth of the U.S. economy. Fink also noted that many current government policies tend to be more inflationary than deflationary.
Federal Reserve Chair Jerome Powell, while acknowledging that the central bank will lower interest rates “over time,” emphasized that the overall U.S. economy remains on solid footing. This statement suggests that the Fed may not be in a rush to implement aggressive rate cuts.
The impact of these market movements extended beyond bonds. The euro experienced a decline, falling as much as 0.5% against the U.S. dollar to $1.11084. This currency movement reflects the changing expectations for European monetary policy.
As of Tuesday, traders have almost fully priced in a quarter-point ECB rate cut in October, a scenario that was considered a fringe possibility just weeks ago. The market is now anticipating a total of about 190 basis points of easing by the end of next year in the United States.
ECB President Christine Lagarde recently indicated that the central bank is becoming more optimistic about its ability to control inflation.
This sentiment, combined with the easing inflationary pressures and deteriorating economic conditions in the eurozone, strengthens the case for an interest rate cut in the near future.
