Euro bank comments spark rally

Q: What did European Central Bank president Mario Draghi say about saving the euro and why did it matter to investors?

Mario Draghi pledged to do whatever it takes to safeguard the euro, hinting the ECB was prepared to intervene to lower the crippling borrowing costs facing Spain and Italy. That reassurance sparked a global market rally, because investors saw a stronger chance of policy action to stabilise European debt markets.

AUSTRALIAN shares rallied along with global markets yesterday after European Central Bank president Mario Draghi pledged to do "whatever it takes" to safeguard the future of the euro.

By InvestSMART · 28 Jul 2012

By InvestSMART ·
28 Jul 2012

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AUSTRALIAN shares rallied along with global markets yesterday after European Central Bank president Mario Draghi pledged to do "whatever it takes" to safeguard the future of the euro.

Shares, bonds and the euro all rose sharply in Europe after Mr Draghi dropped the strongest of hints that the bank was preparing to intervene to bring down the crippling borrowing costs affecting the Spanish and Italian governments.

The Australian sharemarket followed the lead, closing up 1.5 per cent, with financials and resource stocks leading the way on renewed optimism that Europe's leaders will not allow the common currency to break up.

The dollar jumped back above $US1.04.

RBS Morgans Brisbane equities director Bill Chatterton said Mr Draghi's comments led the way for a positive session across almost all sectors, especially resources.

"The fear went away a little bit," he said. "There was a bit more confidence back in the market."

In what was seen as the start of a power struggle with Germany's Bundesbank, Mr Draghi told a business conference in London that the ECB had the legal right to act if the high bond yields caused by Europe's sovereign debt crisis were making its interest rate policy less effective.

Germany has argued that the ECB has no legal right to copy the interventionist policies adopted by the US Federal Reserve and Bank of England, but Mr Draghi said: "Within our mandate, the ECB is ready to do whatever it takes to preserve the euro ... And believe me, it will be enough.

"To the extent that the size of these sovereign premia [high bond yields] hamper the functioning of the monetary policy transmission channel, they come within our mandate."

Rates on Spanish 10-year bonds, which had peaked at 7.75 per cent this week, dropped below 7 per cent.

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Frequently Asked Questions about this Article…

What did European Central Bank president Mario Draghi say about saving the euro and why did it matter to investors?

Mario Draghi pledged to do "whatever it takes" to safeguard the euro, hinting the ECB was prepared to intervene to lower the crippling borrowing costs facing Spain and Italy. That reassurance sparked a global market rally, because investors saw a stronger chance of policy action to stabilise European debt markets.

How did Australian shares react to the ECB comments and market rally?

The Australian sharemarket followed global markets and closed up 1.5% after Draghi's comments, reflecting renewed investor optimism that Europe’s leaders would act to prevent the euro from breaking up.

Which sectors led the Australian market gains and what does that mean for everyday investors?

Financials and resource stocks led the gains, as renewed confidence in Europe boosted risk appetite. For everyday investors, that meant cyclical and commodity-linked stocks outperformed during the session covered by the article.

What did RBS Morgans’ Bill Chatterton say about the market reaction?

Bill Chatterton, RBS Morgans’ Brisbane equities director, said Draghi’s comments produced a positive session across almost all sectors — especially resources — noting "the fear went away a little bit" and there was more confidence back in the market.

How did sovereign bond markets respond, especially Spanish 10-year bond yields?

Bond markets rallied in response to Draghi’s pledge: Spanish 10-year yields, which had peaked at 7.75% earlier in the week, dropped back below 7% after his remarks.

What was the disagreement between the ECB and Germany’s Bundesbank mentioned in the article?

The article notes a debate over whether the ECB has the legal right to copy interventionist policies used by the US Federal Reserve and the Bank of England. Germany’s Bundesbank argued the ECB lacked that legal authority, while Draghi said the ECB is ready to act within its mandate to preserve the euro.

What happened to the Australian dollar after the ECB comments and why does that matter?

The Australian dollar jumped back above US$1.04 following the positive market reaction. Currency moves matter to investors because a stronger Aussie can affect returns on offshore investments and influence export-exposed companies.

What does potential ECB intervention to lower borrowing costs mean for everyday investors?

If the ECB intervenes to bring down high sovereign borrowing costs, it can reduce financial stress in Europe, ease pressure on global markets, and improve investor confidence—factors that helped lift shares and bonds in the article’s market rally.