(Bloomberg) -- Traders are going back and forth over whether the European Central Bank will deliver a half-point interest-rate cut in December.
Money markets boosted the chance of that outcome to more than 50% for the first time on Thursday, after poor French manufacturing and services data added to the drumbeat for more aggressive easing to tackle Europe’s slowing economy. However, that move pared after data for Germany beat expectations, and traders are now almost evenly split between positioning for a 25- and 50-basis-point reduction.
The market reflects the growing divide among the ECB policymakers, with more dovish officials like Mario Centeno arguing for larger cuts amid mounting risks to the economic outlook. Others, including Robert Holzmann and Klaas Knot, have said the current economic data do not justify a larger move. Market wagers on a larger move have been building since last week’s monetary policy decision.
“So much data still to come, and coupled with recent comments from ECB Governing Council members, this will allow markets to speculate on a jumbo cut in December for now,” said Piet Haines Christiansen, chief strategist at Danske Bank AS.
The yield on German two-year notes, among the most sensitive to monetary policy, fell as much as eight basis points to 2.03%, the lowest since early October. Traders also added to the extent of easing seen through 2025.
Investors including bond giant Pacific Investment Management Co. have said they favor European fixed income with interest rates clearly on a downward path; meanwhile, Vanguard and Goldman Sachs Group Inc. are betting that German government bonds will fare better than US Treasury debt.
The euro, which initially dropped after the French data, rebounded to trade around 0.1% higher at $1.08 once the German numbers were released. That’s a possible sign that currency traders are unconvinced that the ECB will deliver a half-point move.
What Bloomberg strategists say...
“The currency and rates markets have gone different ways after those euro-zone PMI numbers, and it may be that the euro’s reaction is the right one... Pricing on the December meeting is still a work in progress — and it may not be the early bird that always gets the worm.”
— Ven Ram, cross asset strategist. Read the full note here.
“They don’t need to panic here,” said Annalisa Piazza, fixed income research analyst at MFS Investment Management, who expects the ECB to maintain increments of 25 basis points. “We really need to see massive downward surprises in the both growth and inflation scenario from here to December to make such a big change.”
In comments this week, ECB President Christine Lagarde has indicated that while the direction of travel for rates is clear, the pace is to be determined and caution is still warranted.
Inflation data due over the next week will be an important factor in assessing the trajectory. Euro-area inflation slowed below the ECB’s 2% target for the first time since 2021 in September, though an uptick is expected in the coming months. Core inflation is still above target, at 2.7%.
Laura Cooper, global investment strategist at Nuveen, told Bloomberg TV that she expects a “gradual pace of cuts”in line with the message from Lagarde.
“I wouldn’t yet lean into a jumbo cut from the ECB,” Cooper said. “There’s been this greater scrutiny on the PMI prints but we’re not getting a clean read that downside risks to growth are building.”
--With assistance from Alice Atkins.
(Updates with euro price move, investor comment from paragraph seven.)
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