European stock and bond prices fell on Monday as investors worried about the impact on the global economy of aggressive interest rate hikes as policymakers try to stem soaring inflation .
Yields on British and Italian sovereign debt rose as traders reacted to the UK’s tax cut package designed to boost the economy and Italy’s election victory of a coalition of right-wing parties.
The European Stoxx 600 fell 0.3% in morning trading. London’s FTSE 100 index traded more steadily as many UK-listed companies are making profits overseas and in dollars, benefiting from a stronger dollar against the pound.
The moves come after a miserable day for stocks on Friday as traders feared high interest rates could dampen economic growth. The Stoxx 600 has officially entered “bear market” territory – generally defined as having fallen 20% or more from a recent high.
UK currency and bond markets continued to react on Monday to government plans to pursue further tax cuts. Borrowing costs on the UK 10-year gilt rose 0.24 percentage points to 4.1%, while the yield on the two-year gilt, which is more sensitive to monetary policy, increased by 0.3 percentage point to reach 4.3%. Bond yields rise when prices fall.
The British pound fell 1.7% against the dollar, hitting $1.0674. The pound hit a record low of $1.035 overnight in Asian trading and fell 1.1% against the euro to €1.1068.
Traders weighed last week’s historic package of tax cuts with the prospect of further fiscal stimulus in the face of rising interest rates and record inflation.
Vasileios Gkionakis, Emea Head of G10 Currency Strategy at Citi, said: “The UK is now in the midst of a currency crisis.”
“It looks increasingly likely that the Bank of England will have to resort to an intra-session hike to support the pound,” he said, adding that “the UK can no longer rely on the” friendliness of foreigners”; sterling will have to depreciate further to compensate for the higher risk premium in the UK”.
In Italy, a coalition of Italian right-wing parties won the country’s elections, led by Giorgia Meloni’s ultra-conservative Brothers of Italy party. The results were widely expected and the parties must now form a government, which usually takes a month.
The yield on the benchmark Italian 10-year bond rose 0.1 percentage point to 4.45%.
Ludovico Sapio, macro research associate at Barclays, said that in the short term “the risks of tensions are modest” but that in the medium term “a centre-right government would bring a looser fiscal stance and higher risk friction with the EU”.
