New policies announced by ECB President Lagarde surprised markets on the dovish side, delivering more support than expected...
In today’s meeting, the European Central Bank’s (ECB) Governing Council resolved to further expand its monetary accommodation by enlarging the Pandemic Emergency Purchase Programme (PEPP) by €600 billion, lengthening its duration by six months to at least the end of June 2021, and committing not to reverse the effect of those PEPP purchases until at least end-2022. In addition, ECB President Christine Lagarde presented new macro forecasts that take into account the economic performance to date and show a worryingly low inflation forecast of 1.3% for 2022.
With these decisions, the ECB clearly surprised the market on the dovish side, as reflected in significantly lower peripheral yield spreads over German bunds at the time when the statement was published. We think that the surprise was indeed holistic in the sense that the ECB delivered more than the market was expecting on all decisions it took. That said, combining the increase with the extension implies that the purchase rate of sovereign bonds under the PEPP will stay roughly unchanged into 2021. Based on today’s decisions, we expect the spread between yields on core and periphery bonds to compress further, but the ECB may have to do more to get medium-term inflation and inflation expectations back up.
On other important issues, Lagarde clarified that the ECB’s Governing Council has not discussed in detail the prospect of including sub-investment-grade-rated bonds in the purchase programs. Regarding the recent ruling by the German Constitutional Court, Lagarde had to repeat her view several times that the ruling was directed at German authorities and that she was confident that a good solution could be found. In this context, she underlined that a version of the “proportionality assessment” requested was inherent in the ECB deliberations and always found its way into the meeting accounts, hinting at a way that the Bundesbank and other institutions could defuse the issue.
We also note a pointed exchange toward the end of the press conference regarding Lagarde’s strong focus on her written brief. While this might seem a minor point, we actually think this is quite important: After a couple of wobbles in previous press conferences, Lagarde did not commit any delivery mistakes today while having to communicate inflation forecasts that arguably no longer converge to the target. This is no minor feat and consistency of message is obviously crucial in this context even though the market will still require time to digest the new forecasts.
We think that today’s decisions need to be viewed against the backdrop of the shockingly low inflation forecast, as argued by Lagarde in the press conference, but also against the fiscal developments in European economies and at the European level. While this year’s purchases of sovereign bonds is roughly enough to cover governments’ COVID-related stimulus outlays, the PEPP extension is arguably meant to further accommodate EU borrowing in the context of the Next Generation EU programme currently still under negotiation. Stepping back for a second, the ECB is clearly satisfied with the progress on the fiscal front, and will happily support those efforts even though it is hard to judge at this point whether a pandemic emergency will still exist in 2021, including in light of the growth rebound forecasted by the ECB. For that reason, Lagarde stressed the link between the PEPP as a monetary policy instrument and the need to deliver an appropriate monetary stance via the most effective tool in the shed, for now.
Bund?is German for bond.
The?Bundesbank?is the central bank of Germany.
COVID-19?is the World Health Organization's official designation of the current novel coronavirus disease. The virus causing the novel coronavirus disease is known as SARS-CoV-2.
The?European Central Bank (ECB)?is responsible for the monetary system of the European Union (EU) and the euro currency.
The?European Union (EU)?is an economic and political union established in 1993 by members of the European Community.
The?Governing Council of the European Central Bank?is the main decision-making body of the European Central Bank (ECB) and has "sole responsibility" for formulating monetary policy in the Eurozone.
The?Next Generation EU Programme?is a temporary reinforcement of EU's long-term budget for 2021 – 2027.
The?Pandemic Emergency Purchase Programme (PEPP)?is a €750 billion ECB initiative that will be conducted until the end of 2020 and will include all the asset categories eligible under the existing asset purchase programme (APP).
A?spread?is the difference in yield between two different types of fixed income securities with similar but not identical characteristics, with the possible differences including creditworthiness, maturity date, or other factors.
Forecasts are inherently limited and should not be relied upon as indicators of actual or future performance.
All investments involve risk, including possible loss of principal.
The value of investments and the income from them can go down as well as up and investors may not get back the amounts originally invested, and can be affected by changes in interest rates, in exchange rates, general market conditions, political, social and economic developments and other variable factors. Investment involves risks including but not limited to, possible delays in payments and loss of income or capital. Neither Legg Mason nor any of its affiliates guarantees any rate of return or the return of capital invested.
Equity securities are subject to price fluctuation and possible loss of principal. Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls.
International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.
Commodities and currencies contain heightened risk that include market, political, regulatory, and natural conditions and may not be suitable for all investors.
Past performance is no guarantee of future results.?Please note that an investor cannot invest directly in an index.?Unmanaged index returns do not reflect any fees, expenses or sales charges.
The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, guarantee of future results, recommendations or advice. Statements made in this material are not intended as buy or sell recommendations of any securities. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not take into account the particular investment objectives, financial situation or needs of individual investors.
The information in this material is confidential and proprietary and may not be used other than by the intended user. Neither Legg Mason or its affiliates or any of their officer or employee of Legg Mason accepts any liability whatsoever for any loss arising from any use of this material or its contents. This material may not be reproduced, distributed or published without prior written permission from Legg Mason. Distribution of this material may be restricted in certain jurisdictions. Any persons coming into possession of this material should seek advice for details of, and observe such restrictions (if any).
This material may have been prepared by an advisor or entity affiliated with an entity mentioned below through common control and ownership by Legg Mason, Inc. Unless otherwise noted the "$" (dollar sign) represents U.S. Dollars.
This material is only for distribution in those countries and to those recipients listed.
All investors and eligible counterparties in EU and EEA countries:
In Europe (excluding UK and Switzerland), this financial promotion is issued by Legg Mason Investments (Ireland) Limited, registered office Floor 6, Building Three, Number One, Ballsbridge, 126 Pembroke Road, Ballsbridge, Dublin 4. D04 EP27, Ireland. Registered in Ireland, Company No. 271887. Authorised and regulated by the Central Bank of Ireland.
In the UK, this financial promotion is issued by Legg Mason Investments (Europe) Limited, registered office 201 Bishopsgate, London EC2M 3AB. Registered in England and Wales, Company No. 1732037. Authorized and regulated by the UK Financial Conduct Authority.
In Switzerland, this financial promotion is?issued by Legg Mason Investments (Switzerland) GmbH.
Investors in Switzerland: The representative in Switzerland is FIRST INDEPENDENT FUND SERVICES LTD., Klausstrasse 33, 8008 Zurich, Switzerland and the paying agent in Switzerland is NPB Neue Privat Bank AG, Limmatquai 1, 8024 Zurich, Switzerland. Copies of the Articles of Association, the Prospectus, the Key Investor Information documents and the annual and semi-annual reports of the Company may be obtained free of charge from the representative in Switzerland.
All Investors in Hong Kong and Singapore:
This material is provided by Legg Mason Asset Management Hong Kong Limited in Hong Kong and Legg Mason Asset Management Singapore Pte. Limited (Registration Number (UEN): 200007942R) in Singapore.
This material has not been reviewed by any regulatory authority in Hong Kong or Singapore.
All Investors in the People’s Republic of China (“PRC”):
This material is provided by Legg Mason Asset Management Hong Kong Limited to intended recipients in the PRC.? The content of this document is only for Press or the PRC investors investing in the QDII Product offered by PRC’s commercial bank in accordance with the regulation of China Banking Regulatory Commission.? Investors should read the offering document prior to any subscription.? Please seek advice from PRC’s commercial banks and/or other professional advisors, if necessary. Please note that Legg Mason and its affiliates are the Managers of the offshore funds invested by QDII Products only.? Legg Mason and its affiliates are not authorized by any regulatory authority to conduct business or investment activities in China.
This material has not been reviewed by any regulatory authority in the PRC.
Distributors and existing investors in Korea and Distributors in Taiwan:
This material is provided by Legg Mason Asset Management Hong Kong Limited to eligible recipients in Korea and by?Legg Mason Investments (Taiwan) Limited (Registration Number: (109) Jin Guan Tou Gu Xin Zi Di 016; Address: Suite E, 55F, Taipei 101 Tower, 7, Xin Yi Road, Section 5, Taipei 110, Taiwan, R.O.C.; Tel: (886) 2-8722 1666) in Taiwan. Legg Mason Investments (Taiwan) Limited operates and manages its business independently.
This material has not been reviewed by any regulatory authority in Korea or Taiwan.
All Investors in the Americas:
This material is provided by Legg Mason Investor Services LLC, a U.S. registered Broker-Dealer, which includes Legg Mason Americas International. Legg Mason Investor Services, LLC, Member FINRA/SIPC, and all entities mentioned are subsidiaries of Legg Mason, Inc.
All Investors in Australia and New Zealand:
This document is issued by Legg Mason Asset Management Australia Limited (ABN 76 004 835 839, AFSL 204827).? The information in this document is of a general nature only and is not intended to be, and is not, a complete or definitive statement of matters described in it. It has not been prepared to take into account the investment objectives, financial objectives or particular needs of any particular person.
The aforementioned Legg Mason entities are wholly owned subsidiaries of Franklin Resources, Inc.