LONDON—Financial markets were in a buoyant mood Wednesday with the euro up against the dollar, stocks firm and euro-zone peripheral yields steady ahead of the European Central Bank's rate-setting meeting later in the day.
The benchmark Stoxx 600 Index was recently 1.7% higher at 238.64. Germany's DAX gained 1.7% to 6071.03 and France's CAC-40 was 2% higher at 3045.86. The U.K.'s FTSE 100, which reopened after the Queen's Diamond Jubilee public holiday, was 1.4% higher at 5334.27.
Although most economists have maintained their forecasts that the ECB won't change its policy response or key rate, investors were hoping for some action from the central bank as the crisis in the euro zone has worsened in recent weeks. Spain's borrowing costs have risen sharply with its banking sector looking increasingly vulnerable and there is still a big question mark over the political situation in Greece as the June 17 general election looms.
In addition, traders said the U.S. Federal Reserve may also introduce a round of fresh stimulus measures. A report in The Wall Street Journal said that disappointing economic data, weak financial markets and the continuing European crisis have made policy action at the central bank a possibility once again. However the Fed's next meeting on June 19 and 20 could be too soon for decisive action.
"The ECB is unlikely to see a rate cut as an effective response to the problems of the periphery, with any rate cut in future likely to be triggered by weakness in Germany and the rest of the 'core' countries," said Lloyds Bank. Nor does it see another long-term refinancing operation as likely at this stage.
At the same time, peripheral bond markets were fairly calm. The Spanish 10-year government bond yield was down 0.03 percentage point at 6.23% and the Italian 10-year bond yield was down 0.04 percentage point at 5.58%, reflecting the more positive mood in the financial markets.
In foreign exchanges, the euro gained against the dollar and was recently fetching $1.2499 compared with $1.2452 late Tuesday in New York.
Bank stocks were up in Europe with the Stoxx 600 Index for the sector 2.8% higher. Even German banks made some solid gains despite Moody's Investors Service lowering its investment-grade ratings on six German banks by one notch. The ratings firm pointed to increased risk of further shocks from the euro-zone sovereign crisis as the reason for the change. Moody's also lowered its investment grade ratings on Austria's three largest banks. However, Commerzbank—one of the banks that was downgraded—was up 2.9%. The move by Moody's is part of its continuing review of over 100 European banks so it was anticipated by the markets.
Despite the "risk on" tone, the results of a German debt auction implied that investors are still wary. The German government sold €3.978 billion of five-year federal notes, or Bobl, and raised the money at record-low borrowing costs for this maturity segment, with an average yield of 0.41%. "Today's good results for the five-year German auction clearly show that market dealers remain in a very cautious mode ahead of the ECB meeting later today," said Newedge. "Despite the increase in yields since early this morning, mainly led by profit-taking, today's German auction shows interest in safe-haven paper. Markets are still pricing in risks of a euro breakup and today's auction is a clear sign that dealers are still worried about it."
Meanwhile, data out of Germany were nothing to cheer about and seemed to suggest that even the euro zone's strongest economy has fallen prey to the region's debt crisis. German industrial production fell 2.2% in April, following an increase of 2.2% in March, and against expectations of a more modest drop of 1%. "The German economy's immunity against the euro-zone sovereign debt crisis is clearly fading away," said ING. "For the time being, it is a stabilization at a high level. However, the latest data clearly indicate that Germany isn't an economic island. The debt crisis has finally reached the German economy."
Among commodities, the July Nymex crude futures contract was up $1.03 at $85.32 and the July Brent futures contract was up $1.12 at $99.96. Spot gold was $17.80 higher at $1,634.80. The September bund was down 0.59 points at 144.27.
The ECB's rate announcement is at 0745 ET and a news conference hosted by the ECB's president Mario Draghi follows at 0830 GMT.
U.S. stock futures were pointing to an equally upbeat session on Wall Street, with the Dow Jones Industrial Average front month futures contract up 0.9% at 12236 and S&P 500 futures contract 1.1% higher at 1298.9.
Write to Michele Maatouk at michele.maatouk@dowjones.com and Andrea Tryphonides at andrea.tryphonides@dowjones.com
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