US Markets

Global financial markets were very nervous going into yesterday’s European Central Bank (ECB) policy meeting…..and for good reason. Since the last ECB meeting in October, the EUR/USD has dropped over 6% and the US SP 500 has gained just over 5%. In this sense, expectations were high that ECB chief Mario Draghi would announce additional stimulus measures, extend the current QE timeline, or both.

Over the last 12 months, the ECB has often fallen short of expectations, disappointed investors and triggered violent price responses in the currency and equities markets. In fact, five out of the last six ECB meetings have ended with the EUR/USD trading higher and global equity markets trading sharply lower.

In the lead up to yesterday’s announcement, some analysts suggested that the ECB was concerned about the lower level of the EURO, and that the recent string of better-than-expected economic data out of the Euro-zone would allow the introduction of tapering monthly bond purchases. However, after listening to Mr Draghi’s press conference, it’s clear that the ECB wants to see a lower EURO and considers a weaker currency an integral component to reaching their 2% inflation target by 2018.

The consensus for the new ECB policy measures was for the bank to extend the duration for six months, keep the monthly rate at €80 billion and expand the bond pool to reduce the risk of supply shortages next year. Instead, Mr Draghi announced the QE program would be extended by another nine months but the monthly amount would be reduced to €60 billion per month. At first, the EUR/USD spiked 120 points higher to 1.0870, and Euro stocks dropped sharply,  on the idea that scaling back the monthly purchases was the start of an exit strategy.

The tapering effect on the market was brief as Mr Draghi spent most of his press conference talking about the possibility of more stimulus, the acute downside risks to the Euro-zone economy and even saying that “there was no tapering in sight.” The math is pretty easy; six months of €80 billion per month equals €480 billion, while nine months of €60 billion per month equals €540 billion. By any measure, that’s a lot of Euros that need to be put to work, which is why G-7 stock indices all rallied strongly.

On balance, the ECB made a decisive policy move to further weaken the EURO, reflate the Euro-zone economies and attempt (again) to kick-start some inflationary momentum. As a result, the downside price trend in the EUR/USD will likely continue and G-7 equity indices will remain buoyant

Early results from Italian exit polls suggest voters have overwhelmingly rejected the constitutional reforms proposed by PM Matteo Renzi. He has pledged to resign if the referendum failed to get a “Yes” majority.

Polls from both leading national broadcasters show the “No” vote beating the “Yes” vote by an average of 56% to 43%.

If verified, a defeat of this magnitude could prompt fresh market volatility, especially in the banking sector which has lost almost half its value this year on the Milan bourse, hit by fears over its huge exposure to bad loans accumulated during years of economic downturn.

In early Asian trade, the EUR/USD is over 1% lower at 1.0540 and the local XJO Index has opened fractionally lower.

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