Stocks stall as bond markets reset price expectations

LONDON, June 8 (Reuters) – Borrowing costs in government bond markets rose and equity markets ground to a halt on Thursday after a surprise rate hike in Canada gave investors their second reminder this week that the rise in global interest rates is not over yet.

Asian markets had struggled overnight and the cautious mood continued in Europe as London’s FTSE (.FTSE), Germany’s DAX (.GADXI) and France’s CAC40 (.FCHI) gradually crept higher after starting in the red.

Traders were driven by a broad repricing underway in bond markets for when and where interest rates in the world’s biggest economies are likely to peak.

In a near carbon copy of a surprise rate hike in Australia this week, Canada caught markets off guard on Wednesday by raising rates to a 22-year high of 4.75% amid an overheating economy and stubbornly high inflation.

US 10-year Treasury yields, the benchmark for global borrowing costs, were back above 3.8% again, while Germany’s 2-year yields in Europe topped 3% for the first time since March, albeit briefly.

“The main theme of everything out there is the bond selloff and the recognition that the pause (in central bank rate hike cycles) does not mean the end,” said Societe Generale strategist Kit Jukes.

“We are definitely repricing interest rate expectations higher,” he added, explaining that traders were now also questioning the long-held view that the US central bank would end its rate hike well before the European central bank.

The Fed, ECB and Bank of Japan all have interest rate decisions next week.

Tapas Strickland, head of markets economics at NAB, said the steps by the BoC and RBA meant US inflation data on Tuesday would be crucial to whether the Fed hikes this month or skips a widely expected move.

The dollar fell slightly on Thursday but held near a three-month high after gaining more than 2.5% against the world’s other top currencies in the past month.

Markets are now pricing in a 64% chance the Fed will stand pat next week, compared with 78% just a day earlier, the CME FedWatch tool showed. Traders largely expect a 25 basis point increase in July.

“The view here was that if both Australia and Canada felt the need for further hikes, the Fed would in all likelihood do so as well,” said Chris Turner, chief market officer at ING.

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Overnight in Asia, Chinese shares (.SSEC) and Hong Kong’s Hang Seng index (.HSI) had both fallen again, still feeling the effects of Wednesday’s decline in export data – a 7.5% year-on-year drop and the biggest the decline since January.

“The weak export figures will have observers looking for another round of policy stimulus,” Saxo Markets strategists said.

The yen strengthened 0.2% to 139.80 per dollar after revised data there showed Japan’s economy grew more than first thought in January-March.

The dollar index, which measures the US currency against six major companies, fell 0.1% in European trade. The euro rose 0.15% to $1.0717 while the Canadian dollar consolidated gains after the BoC’s surprise hike.

Among commodities, US crude oil futures fell 0.25% to $72.37 a barrel and Brent was at $76.76, down 0.25% on the day.

Gold prices steadied after falling 1% in the previous session, with spot gold up 0.3% to $1,945.89 an ounce.

In emerging markets, Turkey’s lira hit another record low. In signs that Tayyip Erdogan’s newly elected government is abandoning an 18-month strategy to keep the currency on a tight leash, the lira fell 7% on Wednesday.

“The thing is that it (the lira) has been kept artificially stable for so long in the run-up to the election,” SEB’s chief emerging market strategist Erik Meyersson said, also pointing to the ongoing questions surrounding Turkey’s economic policy.

Additional reporting by Ankur Banerjee in Singapore; Editing by Toby Chopra

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