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Euro zone money markets price full ECB rate cut by December

Kitco News

LONDON (Reuters) - Euro zone money markets started to fully price in a December interest rate cut from the European Central Bank on Wednesday, as the spread of coronavirus outside China pushed traders to ramp up expectations for more stimulus.

Eonia money market futures dated for the ECB's Dec. 10 meeting now show about 10 basis points of rate cuts being priced in, up from around 7.5 bps on Monday ECBWATCH. That equates to around a full probability of a 10 bps cut from the bank.

The probability of an ECB rate cut in July also rose significantly, to around 70% from 50% on Monday.

Europe's worst flare up yet of the virus in Italy has raised fears that its contracting economy could soon be thrown into another recession.

Asia reported hundreds of new coronavirus cases on Wednesday, including the first U.S. soldier to be infected, as the United States warned of an inevitable pandemic.

Expectations for a rate cut have risen across money markets in recent weeks as analysts try to gauge the extent of the economic impact the coronavirus could have and the support needed to mitigate it.

Traders are now pricing in more than two rate cuts from the U.S. Federal Reserve by the end of the year FEDWATCH and a cut from the Bank of England by September.

"The first thing to say is that, to put it quite bluntly, the ECB is not going to cure anyone from the disease. You can even have doubts about how rate cuts would help economic growth," said ING senior rates strategist Antoine Bouvet.

He was citing a debate on how effective negative rates have been in supporting the region's sluggish economy.

ECB policymaker Francois Villeroy de Galhau said on Tuesday there was currently no need for more monetary policy action in the face of the coronavirus outbreak.

"Nevertheless the market needs to price some reaction, and the ECB is the only game in town," ING's Bouvet added.

Expectations for meaningful fiscal stimulus remain low, especially as measures to boost investment and growth have fallen short in countries like Germany of what analysts say is needed to make a big difference to the bloc's sluggish economy.

Southern European bonds remained under pressure on Wednesday, with the gap between their 10-year yields and safe-haven Germany's continuing to widen, as a risk-off tone pushed investors away from lower-rated names.

Greek 10-year bond yields, which had recently fallen below 1% in a landmark step, rose 12 basis points on the day to 1.19%, set for their worst day in over 3-1/2 months.

Italy saw its 10-year yield rise another 4 basis points, touching a one-month high at 1.04% in earlier trade.

Spanish and Portuguese bonds were also under pressure, with 10-year yields up 3 bps on the day.

These countries' debt metrics — which are some of the highest in the euro zone — are likely to be a concern given the possibility that coronavirus may hurt their economic growth, Rabobank fixed-income strategist Lyn Graham-Taylor said.

Higher-rated euro zone 10-year bond yields rose marginally, with Germany's benchmark up 1 basis point at 0.51%.

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