Markets spooked by Fed’s rate hike signals

London — Stock markets were deep in the red and some key government bond yields climbed to their highest level in years on Thursday after the Federal Reserve signalled the possibility of faster-than-expected US rate hikes and stimulus withdrawal.

Bourses in Asia and Europe fell heavily after Wall Street’s tech-heavy Nasdaq plunged more than 3% on Wednesday and two- and five-year treasury yields, important drivers of global borrowing costs, surged to post-Covid pandemic highs.

Minutes from the Fed’s December meeting had shown that a tight jobs market and unrelenting inflation could require the US central bank to raise rates sooner than expected and begin reducing its overall asset holdings — a process known as quantitative tightening (QT).

Early European trading saw the Stoxx 600 share index lose 1.3%, erasing all of its gains for the year that had sent it to record highs.

Asia has seen sharp falls too. Australian shares slid 2.7% in their biggest daily percentage drop since early September 2020, and Japan’s Nikkei fell 2.9%, its biggest daily fall since June.

“Some people are quite spooked by the minutes from the Fed that they could be tightening faster,” said Carlos de Sousa, an emerging markets strategist and portfolio manager at Vontobel Asset Management.

“Maybe the market is overreacting a bit, though. The fact they are discussing this [quantitative tightening] doesn’t mean they are going to do it,” he said, adding that he expected one to three rate hikes in 2022 but would be surprised if QT did happen in 2022.

The minutes showed that Fed officials were uniformly concerned about the pace of inflation, which promised to persist, alongside global supply bottlenecks, “well into” 2022.

The Nasdaq’s 3% drop on Wednesday was its biggest one-day percentage decline since February 2021 and the S&P 500 fell the most since November 26, when news of the omicron variant first hit global markets.

“There is a risk that the Fed might fall into the trap of making policy errors because they do have to perhaps hike interest rates faster than expected, but given the timing of their exit from quantitative easing, it could coincide with a slowdown in the economic cycle and also a decline in inflation on base effects,” said Casanova.

Yields rise

European trading saw US treasury yields continue to push higher across the curve. The US 10-year yield hit its highest level since April 2021 on Thursday above 1.73% and was last at 1.732%, from a close of 1.703% on Wednesday.

The policy-sensitive US two-year yield hit a new 22-month top of 0.863%, while the five-year yield hit highs last seen in February 2020 at 1.459%.

In Europe too, 10-year Germany bund yields, which rolled over into a new benchmark, rose to -0.05%, the highest level since May 2019, Refinitiv data showed.

Analysts said while the rollover into a new contract made the move in bund yields appear large, even if measured on a continuous basis, yields were at new multi-month highs.

Higher US yields continued to support a firm dollar, though the currency gave back some ground against the yen after touching five-year highs earlier this week, falling 0.21% to 115.86.

The euro weakened 0.05% to $1.1307, while the dollar index crept up by the same margin to 96.228.

In commodity markets, global benchmark brent crude steadied at $79.14 a barrel and US crude dipped to $80.08 a barrel after Opec+ producers agreed to boost production and on a surge in US stockpiles. Opec+ is a grouping of oil cartel Opec and allies led by Russia

Spot gold was down 0.8% at $1,794/oz, with higher US bond yields dulling the lustre of the precious metal.