Germany’s Borrowing Costs Surge as ECB Official Stresses Record Interest Rates

by Warren Seah

Germany’s benchmark borrowing costs surged on Tuesday, reaching their highest levels in over 12 years. This increase came shortly after Francois Villeroy de Galhau, a member of the European Central Bank (ECB) and Governor of the Bank of France, reiterated that interest rates would remain at record levels for an extended period in order to tackle inflation.

In an interview with French news channel BFM TV, Villeroy de Galhau stated, “Inflation is a disease and rates are the medicine. The medicine is starting to work… We think 4% is a good level. We need to maintain the rates at 4% for a sufficiently long time.”

To combat rising inflation and steer it back to their target of 2%, the ECB recently raised its deposit rate by 25 basis points to 4%. Eurostat’s data released on Tuesday revealed that inflation in the eurozone stood at 0.5% month-on-month in August and 5.2% year-on-year.

Driven by these developments, ten-year German bund yields surged above 2.72%, coming close to their highest point since July 2011. However, they later settled at 2.705%, experiencing a minimal decrease of less than 1 basis point throughout the day.

Meanwhile, U.K. 10-year yields dropped by 5.4 basis points to 4.338% as Citigroup and Goldman Sachs predicted that the Bank of England’s anticipated rate hike of 25 basis points to 5.5% on Thursday would be its final move in this particular cycle. The Organization for Economic Cooperation and Development (OECD) also applied downward pressure on gilt yields by revising its growth forecast for the British economy from 1% to 0.8% this year.

Currency movements remained relatively stable as market participants exercised caution ahead of the Federal Reserve’s policy decision on Wednesday. Consequently, the pound maintained its position around $1.24, while the euro hovered near $1.07.

Stock Markets Show Muted Recovery in Europe

The European stock markets exhibited a modest rebound after witnessing initial losses at the beginning of the week. The DAX in Frankfurt remained stable, while the CAC 40 in Paris experienced a 0.3% increase. London’s FTSE 100 also added 0.2%, benefiting from the strong performance of oil companies as they capitalize on crude oil prices flirting with 10-month highs.

Kingfisher Faces Challenges in Poland and France

However, one prominent underperformer was Kingfisher, a London-listed home improvement retailer. Its shares plummeted by more than 7% amidst concerns about challenging market conditions in Poland and France. Consequently, the company revised its profit forecasts downward, a move driven by record interest rates in the eurozone and subsequent increases in borrowing costs. This development has compelled shoppers to tighten their budgets, as confirmed by Susannah Streeter, Head of Money and Markets at Hargreaves Lansdown.

Profit Warnings Reflect Harsh Economic Reality

Russ Mould, Investment Director at AJ Bell, labeled Tuesday as a “gloomy” day for mid and small-cap companies in the UK. Several profit warnings hint at deteriorating economic conditions.

Fashion retailer Quiz faced a significant setback, with shares tumbling nearly 40%. Management attributed this decline to inflation dampening consumer confidence and reducing demand for their products. Similarly, Northcoders, a software coding training specialist, witnessed its share price crash by 38%. The company suggested that clients are now far more hesitant to invest in training due to budget constraints, job cuts, and recruitment freezes.

Even alcohol seller Naked Wines could not avoid the negative sentiment, reporting a slower-than-expected start to the new financial year. This statement resulted in a 10% decline in its share price. These profit warnings serve as a warning for investors to remain cautious as the next earnings season approaches, according to Mould.

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