European stock indexes are trading in a sideways channel as traders increasingly realize that policymakers are likely to remain hawkish in the coming months. German government bonds fell as traders focused on inflation data. The Stoxx Europe 600 index dropped slightly at the opening bell but then regained all losses. S&P 500 and Nasdaq 100 futures posted some small gains after trading mostly in a sideways channel during yesterday's session. The sentiment of investors was not affected by the news that the Chinese economic recovery was expected to be stronger than anticipated.
As noted above, the European bond market continued to decline after hot inflation data in the eurozone countries caused market participants to reassess interest rate expectations. There are renewed speculations that EU and US central banks will continue to raise interest rates aggressively this month. If German inflation also exceeds forecasts, the market will slide down even further.
Clearly, February blew the hopes of policymakers that inflation could be quickly brought down to the target level. Rates are now expected to be higher than previously projected by economists at the end of 2022. New outlooks will only be released during March policy meetings of central banks. Obviously, traders are no longer considering a Fed rate cut this year.
The Fed wants to make sure that high interest rates will surely return inflation to its target level and keep it from becoming entrenched. Rate hikes will continue until the economy begins to slow down substantially, leading to a larger recession than previously anticipated. The market now expects the European Central Bank to continue interest rate hikes until February 2024, with the rate peaking at 4%. Yesterday, ECB chief economist Philip Lane said officials could keep rates high for quite some time after they reach their peak. "It could be quite a long-lasting period, a fair number of quarters," Lane said, adding that his biggest concern was not where inflation would peak, but how sustainable it would be.
On the technical side, the pressure on risky assets has eased a bit, but that hasn't changed the overall bearish trend of the S&P500. The index can recover only if the bulls manage to regain $4,010 today, opening the way to $4,038. Another key goal for bulls is holding on to $4,064, which will stop the bear market. Only after that, the index could steadily surge upwards to $4,091. If the US ISM manufacturing PMI is strong amid low demand, bulls will have to keep the index above $3,983. Otherwise, it would quickly drop to $3,960, opening the way towards $3,923.