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Markets May Be Too Hawkish on ECB Tightening, RBC and Citi Say

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(Bloomberg) — Money markets may be too hawkish when it comes to predictions for European Central Bank tightening, providing opportunities for bets on a slower pace of rate hikes, according to strategists at RBC Europe and Citigroup Inc. 

Interest-rate swaps are wagering on almost three quarter-point rate hikes across the next three policy decisions as the ECB struggles to get a grip on inflation running at more than four times the bank’s 2% target. 

This is set to be be followed by a similar scale of tightening over the ensuing three ECB meetings running from October to January, according to swaps pricing, which RBC Europe strategists, including Peter Schaffrik, said may be too much.

“The path forward for the second half of the year regarding central bank policy tightening does not seem to be set in stone, giving markets room for interpretation for the time being,” according to the RBC note.

While President Christine Lagarde suggested last week that negative interest rates would likely end in the third quarter, clues on official guidance beyond that have been few and far between.    

RCB recommends using interest-rate futures tied to three-month Euribor — a benchmark based on the average rate that banks can borrow in the money-market and a proxy for central bank policy — to bet on a slower path of rate hikes by selling the contract expiring in September and buying its March 2023 peer. 

Strategists at Citi target a similar reduction in premiums, but prefer selling March 2023 Euribor and buying the March 2024 contract as European business sentiment succumbs to weaker economic performance in the US and UK. 

Forward swaps are betting on more than a quarter-point rate cut by the Federal Reserve and Bank of England as soon as in 2024, as policy tightening is expected to act as a brake on growth. Similar metrics barely register a drop in ECB rates.

©2022 Bloomberg L.P.



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