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REFILE-GLOBAL MARKETS-Euro rises, ECB raises debt-buying hopes

Published 08/07/2011, 05:56 PM
Updated 08/07/2011, 06:04 PM

(Refiles with updated headline)

* Euro rises on hopes ECB will buy Italian, Spanish bonds

* US dollar seen dropping; Swiss franc, yen likely gainers

* Some global investors question S&P downgrade

* U.S. downgrade exacerbates growth worries (Adds ECB planning on buying Italian and Spanish bonds]

By Gertrude Chavez-Dreyfuss

NEW YORK, Aug 7 (Reuters) - The euro got a boost on Sunday after a euro zone monetary source said the European Central Bank will intervene decisively on markets to protect Italy and Spain from the debt crisis, indicating it would buy government bonds of the euro zone's third and fourth biggest economies.

A statement from the ECB, issued after the central bank held a conference call, said it would "actively implement" its bond-buying programs, while the euro zone monetary source told Reuters that the ECB would intervene "significantly" in the crisis. [ID:nL6E7J704K]

The U.S. dollar took a further beating against the safe-haven Swiss franc and Japanese yen, though markets were aware of the possibility of intervention by the Bank of Japan and Swiss National Bank to stem their surging currencies.

The dollar fell against the Swiss franc to 0.7570 franc from 0.7671 on Friday. It also lost ground against the yen to 78.01 yen from 78.38 on Friday.

Global stocks could tumble after the United States lost its top-tier credit rating from Standard & Poor's.

Stocks in Tel Aviv <.TA25>, one of the first global equity markets to open since the U.S. downgrade, dropped 7 percent on Sunday in response to S&P's action late on Friday to cut the U.S. long-term credit rating by a notch to "AA-plus" from "AAA."

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The move by S&P drew criticism from some of the world's largest investors. For the S&P story, click on [ID:nLDE77500Z]

"Obviously, we're going to get freaked out a little bit and the dollar will get hit, but it's only going to be for a couple of days," said John Taylor, chairman and chief executive officer of FX Concepts, the world's largest currency hedge fund.

Over the past month, the dollar shed 6 percent against the Swiss franc

"This downgrade is not that important and if you ask me, too silly. The U.S. is in a much better position than any, I repeat, any European country," Taylor added.

While the downgrade was seen as compounding uncertainty in Europe, it was not yet clear whether European policymakers would be able to come up with measures to allay concerns about their own region's crisis. However, all the signs were that they were keenly aware of the importance of reassuring markets.

Germany and France on Sunday reiterated their commitment to implementing the decisions of last month's emergency EU summit. [ID:nLDE77607W] [ID:nL6E7J704K]

One ECB source said that if the ECB council opted to intervene on Italy, the ECB and national central banks would start buying Italian bonds when markets open on Monday.

The ECB last week resumed its purchases of government bonds in the secondary market after an 18-week hiatus, but its decision to restrict such purchases to Irish and Portuguese bonds led to sharp declines in Italian and Spanish bond prices, and borrowing costs soared to 14-year highs.

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Any ECB buying would offer relief to beaten-down Italian and Spanish bonds, although the extent of any rally in these bonds will depend on the size and persistence of the bank's bond purchases.

U.S. RECESSION FEARS

Worries of another U.S. recession and concern about the euro zone crisis have sparked a global stock market slump that wiped $2.5 trillion off companies' values in the past week.

The fall in global share prices, as measured by the MSCI All-Country World Index <.MIWD00000PUS>, was the biggest weekly decline since early October 2008, according to Thomson Reuters Datastream.

Consumer discretionary shares of firms dependent on external demand are likely to be singled out for more punishment.

Still, some investors believed the expected sell-off in stocks on the U.S. credit downgrade had been largely priced in and may not last long. Some expressed doubts about the S&P decision as they are well aware of questions on the S&P's calculations of the projected U.S. fiscal deficits. [ID:nN1E774236]

"The U.S. track record -- over the past 200 years -- on its ability and willingness to fully service its debt is impeccable and the debt statistics should be interpreted not in isolation but in conjunction with the flawless track record of the U.S.," said Stephen Jen, managing director of SLJ Macro Partners in London, a global macro hedge fund.

"This will have no lasting effects on financial asset prices," he added.

U.S. Treasury debt yields are also expected to rise on Monday. Yields on benchmark U.S. 10-year Treasury notes rebounded to 2.56 percent on Friday, but were not very far from a record low of near 2 percent hit during the throes of the 2007-09 global financial crisis. <^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^ Graphic on week's losses http://link.reuters.com/xus92s Euro zone crisis graphics http://r.reuters.com/hyb65p Euro zone bond spreads http://r.reuters.com/kus82s Dealers cut U.S. growth outlook [ID:nN1E7741Y9] ^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>

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The sharp swings in financial markets have piled pressure on policymakers.

Finance ministers from the Group of Seven most developed economies are set to discuss the U.S. sovereign rating downgrade and Europe's debt woes on Monday, Japanese news agency Kyodo reported earlier on Sunday. [ID:nL3E7J700A]

"Be wary (Monday) of irrational depression as markets take flight," said Justin Urquhart Stewart, a director at Seven Investment Management in London. "We are dealing with the knowns and not the unknowns, but what we have a shortage of at the moment is political leadership."

Goldman Sachs strategists said there was a one-in-three probability of a U.S. recession due to the worsening European crisis, the possible failure to extend payroll tax cuts and elevated levels of joblessness, despite a slight dip in the U.S. unemployment rate in July.

That would bode ill for the benchmark MSCI all-country index, which last week hit its lowest since September 2010 and has accumulated losses of more than 12 percent since late July.

"Market sentiment appears acutely vulnerable given the build-up of concern on a sharper U.S. slowdown and speculation on the appropriate policy response and lingering fears stemming from the sovereign debt crisis in Europe," Citigroup strategists said in a note.

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