At its June 9 meeting, the European Central Bank (ECB) announced its Asset Purchase Programme (APP) will conclude at the end of the month. In addition, the ECB announced it will hike interest rates 25 basis points at its July meeting, and further hikes are coming in September and beyond. For now, the deposit rate is at -0.5%, but won’t be for long. This is much more hawkish than I think the market was expecting in that the ECB does see inflation risk to the upside—and is willing to act.While the central bank forecasts annual inflation at 6.8% in 2022, its forecast for inflation for 2024—which is really the important one to look at—is at 2.1%, so it is seen backing down to close to its target range of 2%. So, I think this means interest rates will continue to rise in the eurozone, but I start to question how much. The ECB also downgraded its growth forecast for this year and next, namely due to the continuing war in Ukraine.
From an investment perspective, I think this is really going to focus investors on spread widening between government bonds. There was no plan announced related to buying peripheral government bonds, which some marketwatchers were expecting.
So, we’ve seen the peripherals (Italy, Greece, etc.) underperforming, and I think that’s likely to continue in the coming months. So overall, the ECB has now jumped on the bandwagon to start hiking rates with other major central banks globally, and as a result, the bond market is going to continue to see rates move higher and spreads move wider.
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