October 2014

EUROZONE: ECB’s September rate cut: Reaction

European Central BankFund manager reaction to the recent European Central Bank interest rate cut and an introduction of a bond-purchasing stimulus ranged from ‘too little, too late’ to praise for exceeding expectations. The European central bank cut its main interest rate from 0.15% to 0.05% in September and the deposit rate was cut a further ten basis points to -0.2% in response to weak economic data and a drop in long-term inflation expectations. Also, in response to the threat of deflation, the ECB will begin buying a broad portfolio of asset-backed securities and covered bonds in October. The euro fell and stocks rose after the announcement. What follows is a range of reaction from fund houses. NEIL WILLIAMS, HERMES GROUP CHIEF ECONOMIST:
Williams claims that the ECB move was really “a step in the right direction, but too little, too late to snuff out deflation-risk and kickstart growth”. “The further ten basis points shavings off the refinancing and deposit rates are puny, and look more cosmetic than real. Any drop in the euro on the back of them would be welcome, but possibly short-lived. “The ECB hopes the negative deposit rate (-0.2%) will deter banks from parking cash at the ECB, instead passing it on to consumers and firms. But, this may be a red herring, given still tame credit demand, pressure for the banks to pass stress tests and the fact that the bulk of reserves still gets the (0.05%) refinancing rate.” AZAD ZANGANA, EUROPEAN ECONOMIST, AND CHRIS AMES, FIXED INCOME FUND MANAGER, AT SCHRODERS:
“In our view, the cut in interest rates is totally irrelevant. Due to the glut of liquidity in money markets, short-term interest rates have been below the ECB’s main financing rate for some time – meaning that the latest cut will have near zero impact.“The purchase of ABS is designed to transfer the risk of packaged loans from banks to the ECB, which in theory should free up capital for those banks to increase lending to households and corporates.  Of course, there is no guarantee those banks will choose to lend more, especially as some are under pressure from a regulatory position to boost their core capital holdings. “For now, [QE] is not on the ECB’s agenda, and if the ECB’s staff projections are right in forecasting a recovery in growth and inflation for next year, the ECB may never have to embark down that controversial path.” TREVOR GREETHAM, DIRECTOR OF ASSET ALLOCATION AT FIDELITY WORLDWIDE INVESTMENT:
“[ECB] president Mario Draghi kept the door open to sovereign bond purchases and he continued to talk the euro down by drawing attention to other central banks heading towards tightening. “All told, today’s policy changes aren’t enough to cause growth to come surging back in the euro area but things are looking brighter in the US where business confidence is strong and consumers are buying cars and houses once more.  “We continue to prefer the US dollar to the euro and we favour US equities over those in Europe in our multi-asset funds.” MARTIN HARVEY, FIXED INCOME FUND MANAGER AT THREADNEEDLE INVESTMENTS:
“The ECB exceeded market expectations once again this month, highlighting both the commitment to anchoring inflation expectations, and also heightened concerns that market participants are losing faith after so many months of low inflation prints.”  He added: “This will mark the beginning of quantitative easing, albeit without going down the more traditional route of sovereign bond purchases. Institutional hurdles remain to such a policy but it remains in the armoury if the economic situation were to worsen further. For now, this policy should provide further solace to risk assets and a continuation of the recent ‘hunt-for-yield’ theme in fixed income markets, at least until we find out how quickly the balance sheet expansion occurs.” BILL STREET, HEAD OF INVESTMENT IN EUROPE, THE MIDDLE EAST AND AFRICA, AT STATE STREET GLOBAL ADVISORS:
“The decision to cut interest rates today is a staging post for more aggressive measures to be implemented in the coming months. Cuts in the main refinancing rate and the deposit rate illustrate the continued weakening of macroeconomic data within Europe since the last ECB meeting. “This is taking place with a backdrop of zero inflation and concerns that Europe is heading into a deflationary environment. We expect both cuts to have a muted effect on bank lending while adding to further weakening of the euro’s momentum with our current fair value estimate at 1.18.“The announcement of fresh covered bond purchases was a surprise, considering market speculation of an asset backed securities (ABS) purchase programme was being announced. We expect [Draghi] to continue to do what it takes with regards to further discussion around the implementation of an ABS purchase programme and a broader, more impactful, QE programme.” GREGOR MACINTOSH, HEAD OF SOVEREIGN, EMERGING DEBT AND FOREIGN EXCHANGE, LOMBARD ODIER INVESTMENT MANAGERS:
“While Draghi continues to show his progressive intent, the specific economic impact of the measures he has announced is likely to have less impact than will be delivered by the euro’s reaction to his policy initiatives. The limits of the EU policy framework have so far tied Draghi’s hands from delivering full-scale quantitative easing , let alone encourage fiscal easing. However, the steepening of the European yield curve, strong rally in peripheral debt and equities suggest investors are encouraged about the reflationary impulse of the euro’s depreciation.” ANDREW BOSOMWORTH, MD AND PORTFOLIO MANAGER AT PIMCO:
“The surprise rate cut and covered bond purchase programme probably reflect that president Draghi does not have unanimity, or a large enough majority, for quantitative easing.” He added: “Deeper negative interest rates raise the opportunity cost of holding euro cash. Companies and investors will try even more to minimise euro cash balances, which will help to further weaken the currency … I would not expect [these] measures to have a significant impact on the real economy...” ©2014 funds europe

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