European equities ended Thursday on a buoyant note as stimulus from the Fed and hopes of further progress from Greece encouraged hopes that the worst is now over. The Stoxx 600 index for Europe is now back in bull market territory, having recovered more than 20% from its September lows and the EUR has responded accordingly, ending the session above 1.31. It appears the focus has now shifted towards whether the ECB is willing to participate in the debt swap, and European legislators are now keen to point out that the boost to sentiment would be very strong, at very little financial cost to the ECB. The legality and principles behind such a step remain over to interpretation, but the lack of denials by the central bank may be enough to keep risk rallying until talks end – wires reported that the IIF will meet with the Greek government on Friday to discuss ‘legal and technical issues’. While progress appears palpable (yet volatile) in Greece, not to mention hopes of fresh resources for the periphery, the Fed’s anchoring of expectations has also played a strong role in asset price performance. Although the bar to fresh balance sheet expansion appears high at this stage, it has been better defined through yesterday’s releases and the market has been reassured that even expectations for any form of normalization should probably not be expected anytime soon. This may be good news for asset prices, but we remain wary that just like the LTRO out of the ECB, the market is relying too much on liquidity and disregarding the need for structural adjustment. In the US, this pertains to household balance sheet consolidation (the housing market) and in Europe competitiveness reforms. Lack of action on either risk a return to pain further down the road and the 2009-2011 cycle repeating itself.
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UBS Investment Bank