- Cyprus bailout deal increases fear of the potential effects of capital control and the risk of contagion across Europe
- Equity market trades lower and spread between 10-Yr. U.S. and German government bonds reaches its highest level in almost three years
- A dovish Bank of Japan Governor Haruhiko Kuroda signals more bond purchases with longer maturities
Yesterday’s initial relief rally on the back of the bailout deal for Cyprus proved to be short-lived as investors fear the potential effects of capital control and the risk of contagion across Europe. The bailout deal, which included losses for depositors with money over the EU deposit guarantee of EUR100,000, creates a dangerous precedent for future bail-out negotiations. Hence, the risk of bank runs and capital flight has increased significantly in countries assumed to be next in line to need help. Greece and Spain in particular could be subject to capital flight in the event that new renegotiations are necessary in the two countries.
Investors’ negative risk sentiment weighed on the U.S. equity market and both S&P500 and the Dow Jones Industrial Index ended the day lower. The Dow lost 0.4%, while the S&P 500 declined 0.3%. The negative sentiment was carried over to the Asian trading session and most regional Asian equity markets are trading lower this morning. Nikkei is currently down by 0.2%% and Hang Seng is down 0.5%.
Yields on 10-year U.S. Treasury ended the day roughly unchanged at 1.92% relative to Friday’s close at 1.925%. The spread between 10-year U.S. treasuries and 10-year German government bonds reached its highest level in almost three years at 60bp as the bailout deal for Cyprus increased demand for safe assets in Europe.
Kuroda Speaks
In a quite dovish speech to the Diet, the new Bank of Japan governor, Haruhiko Kuroda, this morning said that he wants to achieve 2% inflation in two years’ time and indicated that the bank considers buying more bonds with longer maturities. Kuroda underlined that ‘Overcoming deflation at the earliest possible time is the most critical issue facing Japan’s economy’. Regarding the asset purchase programme Kuroda said that ‘the scale and type of assets to be purchased have not been sufficient to materialize a strong commitment to achieving 2 percent inflation at the earliest possible time. We need to pursue bold monetary easing both in terms of quantity and quality.’
In the FX markets, movements have been rather modest over the night following a very volatile session yesterday. EUR/USD has stabilised after the two-figure drop yesterday and is hovering above the 1.2850 level this morning. USD/JPY gained some support after the relatively dovish comments from Bank of Japan governor Kuroda and it cross reversed some of its losses from last night when it temporarily dipped below 93.60. USD/JPY is currently seen trading around the 94.20 levels.
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