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Shares struggle as bond markets reprice rate expectations

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By Marc Jones

LONDON (Reuters) – Borrowing costs in government bond markets rose and share markets stalled on Thursday after a surprise interest rate hike in Canada gave investors their second reminder of the week that the surge in global interest rates isn’t done yet.  

Asian markets had struggled overnight and the cautious mood continued with U.S. traders expecting a muted start there later and London’s FTSE, Germany’s DAX and France’s CAC40 all having largely uneventful sessions. [.EU]

Traders were being driven instead by a broad repricing in the bond markets over when and where interest rates in the world’s biggest economies are likely to max out.

In an almost carbon copy of a surprise rate rise in Australia this week, Canada caught markets off guard on Wednesday by hiking its interest rates to a 22-year high of 4.75% due to an overheating economy and stubbornly high inflation.

U.S. 10-year Treasury yields, the benchmark for global borrowing costs, were back over 3.8% again. The 2-year yield was up for a third straight day and the European equivalent, the German 2-year, topped 3% for the first time since March, albeit only briefly. [GVD/EUR]

“The main theme to everything out there is the bond selloff and the realisation that the pause (in the rate hiking cycles of central banks) doesn’t mean the end,” said Societe Generale strategist Kit Juckes.

“We are definitely repricing rate expectations higher,” he added, explaining that traders were also now questioning the long-held view that the U.S. Federal Reserve would end its rate hike cycle well before the European Central Bank.

The Fed, ECB and Bank of Japan all have interest rate decisions next week, meaning that most traders were shying away from any major buying or selling.

Tapas Strickland, head of market economics at NAB, said the moves in Canada and Australia meant U.S. inflation data next Tuesday could be pivotal to whether the Fed hikes this month or skips a move as is still widely expected.

The dollar fell slightly on Thursday but remained near to a three-month high following a more than 2.5% rise against the world’s other top currencies over the last month.

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

“The view here was that if both Australia and Canada felt the need for further hikes, in all probability the Fed would too,” said Chris Turner, head of markets at ING.

TRYING TIMES

Overnight in Asia, Chinese shares and Hong Kong’s Hang Seng Index had managed to turn around early dips [.SS] although many in the market were still feeling the effects of Wednesday’s slump in exports data – a 7.5% year-on-year drop and the biggest decline since January.

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

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

The dollar index, which measures the U.S. currency against six major peers, was still down 0.3% as the first waves of U.S. trading began. The euro was up almost 0.4% at back above $1.07, while the Canadian dollar was consolidating the gains it made after the Bank of Canada’s surprise hike.

“The RBA and Bank of Canada have put the cat among the pigeons a bit,” said CMC Markets strategist Michael Hewson. “Rate cuts are being repriced. They are being pushed back from the end of this year into next year.”

Across in the commodity markets, oil found its footing across with both Brent and U.S. crude futures rising as much as 1% to $77.47 and $73.18 per barrel respectively on the day. [O/R]

Gold prices also steadied following a 1% drop in the previous session, with spot gold up 0.3% at $1,946 an ounce. [GOL/]

In emerging markets, Turkey’s lira inched to another record low. Signs Tayyip Erdogan’s newly re-elected government is abandoning an 18-month strategy of keeping the currency on a tight leash has seen the lira nosedive 7% on Wednesday.

“The thing is, is that it (the lira) has been held artificially stable for so long in the lead up to the elections,” SEB’s Chief Emerging Markets Strategist, Erik Meyersson, said also pointing to the ongoing questions over Turkey’s economic policies.

(Aditional reporting by Ankur Banerjee in Singapore; Editing by Toby Chopra and Mark Potter)

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