Daily Insight ECB outlook: what’s priced in?
Group Economics Macro & Financial Markets Research
Nick Kounis, +31 20 343 5616
22 October 2015 • • •
We look at to what extent further ECB easing is priced in to markets as well as scenarios Markets are pricing in a 30% chance of a 10bp deposit rate cut by year end Meanwhile, a QE extension is more priced in than an increase in the pace of monthly purchases
Speculation has heated up, but what is priced in?
Probability of deposit rate cut
Over the last few months, speculation has increased that the ECB
%, derived from ECB-dated EONIA forwards
will take more action, over and above the asset purchases it has announced. Discussion has centered on some kind of adjustment of its QE programme and more recently on the possibility of a deposit rate cut. Below we will assess to what extent the different policy actions are priced in by financial markets, as well as what impact different scenarios will have. Our own base case, which we call QE Plus, is that the ECB will both step up and extend its QE programme at the December meeting.
70 60 50 40 30 20 10 0 Oct Dec Jan Mar Apr Jun 15 15 16 16 16 16
Deposit rate cut this year is only modestly priced in
10bp
Jul 16
Sep Oct Dec 16 16 16
20bp
The ECB’s deposit rate currently stands at -0.2%. It was reduced to this level from -0.1% in September of last year, while before that
Source: Bloomberg and ABN AMRO Group Economics
it was moved down from zero in June of last year. Assuming that the EONIA rate will remain around 5bp above the deposit rate, we can use EONIA forwards to calculate to what extent markets are pricing in a 10bp deposit rate cut and 20bp reduction (see chart). Markets are pricing in a 30% chance of a 10bp reduction by year end, rising to 60% by June of next year. The probability of a 10bp reduction today is seen at just 10%. QE extension more priced in than increase in monthly purchases Expectations of QE are not directly observable in market pricing, so what investors exactly expect is more uncertain. Certainly as QE speculation has built, we have seen Bund yields declining and
Scenario 1: ECB sits on its hands in 2015 If the ECB refrains from action this year, this would be disappointing to financial markets. It would be a negative for risky assets and spreads, and we would see upward pressure on core bond yields and curve (2s5s) steepening. The euro would be pushed up through 1.15. Scenario 2: ECB extends through September 2016 If the ECB announces that the asset purchase programme would likely run through September 2016, without any additional measures, this could be slightly disappointing to markets, with moderate reactions in the general direction described above.
yield curves flattening, a typical sign that investors are starting to build in expectations of more QE. The moves have not been big enough to suggest that QE is fully priced in, while we think speculation has been more focused on an extension of the duration of the programme than an increase in the size of monthly purchases. A recent Bloomberg survey seems to be in line with this. Of the 53 analysts surveyed, 81% expect the ECB to step up QE eventually (up from 68% last month). However, only 51% expect the move to come this year. Of those that expect more QE, 81% expect an extension of the programme past September 2016, while only 42% expect an increase in the size of monthly asset purchases. Only 4% expect a deposit rate cut.
Scenario 3: Monthly increase and extension of QE An increase in monthly purchases as well as an extension of QE would have a significant effect in supporting risky assets and sovereign yield spreads. Bund yields would fall further and we would see 2s5s flattening. The euro would be pushed down. Scenario 4: QE Plus and deposit rate cut An increase and extension of QE together with a deposit rate cut would have the most powerful effects, generally in the same direction but bigger in size than Scenario 3. The euro would be hit in particular by the rate cut. The exception would be somewhat less curve flattening as a rate cut would be supportive of 2y government bonds (German 2y yields could fall below -30bp).