Global Markets: Investors Look Beyond Fed

Thu Jul 1, 2004

By Jeremy Gaunt, European Investment Correspondent

LONDON (Reuters) - Financial markets took the first rise in U.S. interest rates for four years in their stride on Thursday, unruffled by any surprises, and immediately began to look for economic data to guide them on what comes next.

European stocks rose solidly, bond prices were under pressure and the dollar recovered from earlier losses to gain against the euro.

Wall Street looked set to open flat after gaining on Wednesday.

Investors in Japanese assets reacted to a stronger-than- expected "tankan" business sentiment survey, lifting Tokyo stocks to a nine-week closing high and driving the yen higher against both the dollar and euro.

The Fed's decision to raise rates 25 basis points to 1.25 percent -- ending the post-internet bubble era of ultra-easy monetary policy -- threw no surprises at investors.

The accompanying statement reiterated that the Fed plans to take a "measured" approach to bringing rates back up, but only if economic circumstances do not change.

"The Fed has knocked the ball back into the markets' court by saying that ultimately it all depends on the data," said Ian Gunner, head of foreign exchange research at Mellon in London.

Analysts said that to start with there would be keen focus on Friday's U.S. jobs data for June. Strong employment growth can trigger inflationary wage pressures.

An initial Reuters poll of Wall Street economists, however, showed a consensus for the "measured" approach with the Fed to tighten again in August and for the fed funds rate to be 2.0 percent at the end of the year.

In other data, the latest Purchasing Managers' Index survey for the euro zone manufacturing sector showed growth slowed because export demand was not strong enough to make up for lackluster consumer spending.

The Reuters Eurozone PMI slipped to 54.4 in June from 54.7. Economists had expected a rise to 55.0.

The European Central Bank left its rate on hold and President Jean-Claude Trichet said the outlook was still for price stability in the euro zone.

STOCKS, DOLLAR, BONDS

European shares rose. The FTSE Eurotop 300 index of pan-European blue chips was up 0.6 percent while the narrower DJ Euro Stoxx 50 index gained 0.77 percent.

There was some relief that the Fed did not appear to be preparing for more aggressive moves.

"It (Fed commentary) could have been much worse especially since leading indicators had come out strong in the past two weeks," said Rolf Elgeti, European strategist at Commerzbank.

Earlier, Japan's Nikkei closed up 0.31 percent or 37.14 points at 11,896.01, its highest level since April 28. The broader TOPIX index slipped 0.10 percent to 1,188.42, its first fall in six sessions.

The Bank of Japan's "tankan" poll of business sentiment produced a plus 22 reading for the headline diffusion index (DI) for large manufacturers, compared to plus 12 in March. The figure was the highest since August 1991 and well above a consensus forecast for plus 17.

On the foreign exchange markets, the yen surged against the dollar and euro as a result, although the U.S. currency managed to lift off the previous day's lows against European currencies set after the Fed hike.

The euro came off its day lows against the dollar and was down 0.09 percent to $1.2175 after gaining one percent in the previous session. It was off 0.8 percent against the yen at 131.58.

The dollar was three quarters of a percent weaker on the yen at 108.06 yen.

Short euro zone government bonds yields were barely changed Two-year yields were at 2.712 percent while 10-year debt yields gained around one basis points to 4.324 percent.

"I think we will remain range bound until the U.S. non-farm payrolls on Friday," said one trader.

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