© Reuters. FILE PHOTO: The headquarters of the European Central Bank (ECB) in Frankfurt, Germany, March 12, 2016. REUTERS/Kai Pfaffenbach
By Yoruk Bahceli and Dhara Ranasinghe
(Reuters) – Southern (NYSE:) Europe led a fall in euro zone sovereign bond yields, while the euro edged up on Thursday after the European Central Bank said it will dial back its emergency bond purchases a notch but stressed that move was not a taper.
Borrowing costs across the euro area had shot up last week as hawkish comments from some officials put markets on the alert that the ECB could be moving towards winding down its massive emergency stimulus.
But Thursday’s decision was in line with expectations for a slight slowdown from the current 80 billion euros per month of bond purchases.
And the ECB remained cautious: it flagged no other moves, notably how it ultimately plans to dismantle the 1.85-trillion-euro Pandemic Emergency Purchase Programme (PEPP) which has kept borrowing costs low.
Relief swept across debt markets, with 10-year bond yields in southern Europe – the biggest beneficiaries of ECB bond buying – down 4-6 basis points on the day.
Italy’s 10-year bond yield was last down 6.5 bps on the day at 0.69% and was set for its biggest one-day fall since March.
That narrowed the gap with German 10-year yields to the tightest in about two weeks at just under 104 bps.
“It seems like the every single question was, we’ll see in December,” said Antoine Bouvet, senior rates strategist at ING.
“I don’t think (the meeting) is very much dovish at all. Expectations were perhaps too hawkish, that’s probably what we can infer from that market reaction.”
French and Portuguese 10-year bond yields were set for their biggest daily fall in two months. French 10-year yields slipped back into negative territory to last trade at -0.016%.
And German two- and 10-year bond yields were set for their biggest daily fall since July. The 10-year Bund yield was last down 2 bps at -0.34%
“For the market the outcome is an easy one to accept,” said Jefferies European economist Marchel Alexandrovich. “There were very small changes to the forecasts. So, if the economic outlook is essentially unchanged then so is monetary policy.”
The ECB upgraded its growth forecast for this year to 5% from a previous 4.6% target and raised inflation expectations. Inflation is now seen at 2.2% this year, falling to 1.7% next year and 1.4% in 2023 – well below the ECB’s 2% target.
Graphic: Markets react to the Sept ECB meeting – https://fingfx.thomsonreuters.com/gfx/mkt/gdpzyyzaavw/ecb0909.png
The euro was last up 0.1% on the day at $1.18275, in choppy trade following the ECB policy announcement. European stocks initially ticked higher but soon edged back down.
Analysts see the PEPP purchase slowdown as a largely technical adjustment. Given the remaining PEPP envelope, the ECB would not be able to buy more than 73 billion euros a month on average anyway, according to UniCredit.
Analysts expect the ECB will need to increase its conventional APP asset purchases, currently at 20 billion euros a month, once PEPP ends.
“All the tough decisions – on bond purchases after March 2022 and the future of the TLTROs – have been postponed,” said Arne Petimezas, analyst at AFS Group.
“It is quite possible that the ECB will not be ready by December, and that we will have to wait until January or March 2022 before we get a conclusion.”