The European Central Bank on Thursday delivered basically what the market expected for QE: 60 billion euros of purchases per month directed at investment-grade-rated government and agency debt and with a total size, considering the contemplated end date by September 2016, of around one trillion euros. The modest decline in the euro and further declines in European bond yields, along with compression between peripheral and core bonds, all reflect the success of a QE announcement in line with market expectations.
Importantly─and with the usual caveats of smaller market liquidity─inflation expectations signaled from inflation-linked bonds and the ECB’s oft cited five year, five-year forward measure of inflation increased on the day. That trend towards higher inflation expectations continued into U.S. inflation expectations, indicating that the ECB QE announcement, and coincident with tentative signs of stabilization of oil prices, may mark the low point of deflationary fears driving global interest rates to new lows.
The surprises, if any, were to be found in Draghi’s Q&A session and in his more off-scripted moments. We consider two to be critical.
1. The maturity range of purchases. Having not been laid out in the prepared remarks, Draghi answered this question most casually. But as can be seen by the chart below, the casual extension of purchases out to 30 years appears not to have been the market expectation, as the clarification led to the most dramatic of market moves associated with the QE announcement.
This turnabout also appears to have turned overall yield sentiment. Whereas the initial reaction to the 60-billion-euros-a-month announcement of higher yields might have reflected some disappointment, Draghi’s clarification on maturity reversed that interpretation, leading to lower rates across the curve, the continent and spilling over into all global bond markets.
2. Clarification of whether the plan will work. We found the candid remarks to a question by Brian Blackstone of The Wall Street Journal to be a crucial interchange. Blackstone asked why the financial markets should think the plan will work in terms of boosting inflation and restoring economic growth and employment in the eurozone. Draghi offered a handful of reasons, but also noted that while monetary policy can build the foundation for growth, it’s up to government policy to implement vital structural reforms, a point he has stressed on many occasions.