Sarkozy/Merkel meeting fails to inspire investors – Weale and Dale ditch rate hike calls in MPC minutes

<p>Stocks fell across Europe as investors were left uninspired by the consensus reached between Angela Merkel and Nicolas Sarkozy to stabilise the eurozone. Banks and […]</p>

Stocks fell across Europe as investors were left uninspired by the consensus reached between Angela Merkel and Nicolas Sarkozy to stabilise the eurozone. Banks and exchange firms were the hardest hit by the measures recommended by the agreement which included a revisit of the much hated financial transaction tax. The FTSE subsequently fell by around 40 points by mid morning. Having traded below the 5300 level earlier in the session and despite a rally around the time of the US market open, the FTSE closed out in negative territory on the day.

Dampening sentiment further on Wednesday was data which showed that the UK unemployment rate unexpectedly climbed to 7.9%, from 7.7%, whilst UK jobless benefit claims also jumped by the most in two years.

Merkozy fails to inspireThe proposed measures announced by Merkel and Sarkozy have left most in the market rather disappointed. The eyes of Europe were on them and perhaps investors were expecting too much to come from the meeting. Unfortunately the two measures investors were keen to see progression made on; an increase to the size of the EFSF or a plan to incorporate a Euro Bond, did not come. There was some real disappointment about this, particularly the fact that without consensus between France and Germany, it is hard to envisage any increase in the €440 billion size of the EFSF which most investors already highlight as too weak.

One does get the feeling that both leaders are readying the steps needed before a euro bond could be incorporated, which is to have a stronger and more centralised fiscal control and oversight. Without such a loss of some degree of fiscal sovereignty from member states, it would be hard to justify a unification of eurozone debt liabilities. So in truth, the measures recommended by the so called ‘Merkozy duo’ could indeed be one of necessity but certainly the speed and language used by both leaders towards such a proposal emphasises that the euro bond idea remains an ideology.

The revisiting however of a financial transaction tax is one area that has also been met with antipathy in the markets. The idea was quashed in September last year as a type of ‘Robin Hood tax’ and whilst we don’t know how this type of tax would work, whether it would be a tax on the exchange or the trader side, it is likely to remain a point of vehement protest by corporations and some members of the EU. As a result, investors have turned into defensive mode on the mere reintroduction of such a proposal, with exchange firms the London Stock Exchange and Deutsche Boerse shares being hit hard as a consequence. Both firms’ shares fell around 4% on the day. Banks also saw weakness, with the FTSE 350 banking sector trading down on the day by nearly 2% and banks such as Barclays and HSBC being the key drags on the FTSE 100 as a result.

Dale and Weale ditch hike callsIn currency markets however, the pound sterling fell sharply against the US dollar, falling back below the $1.64 level after long time hawks at the MPC Weale and Dale surprisingly ditched their calls for a rate hike, meaning that the MPC voted 9-0 to keep rates on hold.

The change in stance at the MPC is one of complete surprise with the committee appearing to have moved from one of fractitious divide to a more settled and dovish tone. This helps the market in three areas; first is it lessens the prospect of near term interest rate hikes, which plays into the hands of homeowners and makes savers rethink their strategy. Secondly it boosts confidence that inflation will start to recede and finally the fact that the Bank of England MPC is starting to unify opinions on Monetary Policy after a long period of division is also healthy and welcomed.

Join our live webinars for the latest analysis and trading ideas. Register now

GAIN Capital UK Limited (trading as “City Index”) is an execution-only service provider. This material, whether or not it states any opinions, is for general information purposes only and it does not take into account your personal circumstances or objectives. This material has been prepared using the thoughts and opinions of the author and these may change. However, City Index does not plan to provide further updates to any material once published and it is not under any obligation to keep this material up to date. This material is short term in nature and may only relate to facts and circumstances existing at a specific time or day. Nothing in this material is (or should be considered to be) financial, investment, legal, tax or other advice and no reliance should be placed on it.

No opinion given in this material constitutes a recommendation by City Index or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person. The material has not been prepared in accordance with legal requirements designed to promote the independence of investment research. Although City Index is not specifically prevented from dealing before providing this material, City Index does not seek to take advantage of the material prior to its dissemination. This material is not intended for distribution to, or use by, any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation.

For further details see our full non-independent research disclaimer and quarterly summary.