By Mike Dolan
LONDON (Reuters) - What matters in U.S. and global markets today
By Mike Dolan, Editor-At-Large, Financial Industry and Financial Markets
The spotlight hit Britain on Thursday as U.S. President Donald Trump's 'major trade deal' announcement looks set to provide a major relief for UK exporters, just as the Bank of England is set to cut interest rates.
I'll get into all the market news below, and, for today's deep dive, I'll explain why Europe may be better prepared to absorb a deluge of global investment flows than many assume.
Today's Market Minute
* The Federal Reserve held interest rates steady on Wednesday but said the risks of higher inflation and unemployment had risen, further clouding the U.S. economic outlook.
* Trump is expected to announce a trade deal between the United States and Britain on Thursday, the New York Times reported on Wednesday.
* Ukraine is starting to consider a shift away from the U.S. dollar, possibly linking its currency more closely to the euro amid the splintering of global trade and its growing ties to Europe, Central Bank Governor Andriy Pyshnyi told Reuters.
* Sentiment in the oil market has soured in recent weeks, but looking at current conditions on the ground - and refiners' profit margins - one would be forgiven for thinking that the oil market is doing extremely well. What gives? Reuters' columnist Ron Bousso explores this discrepancy.
* Concern is mounting over just how big a hit the Chinese economy is going to take from the trade war with the United States, but so far the commodity most at risk - iron ore - is seemingly unaffected. Reuters' columnist Clyde Russell explains why in his latest piece.
UK eyes 'major trade deal'
A British official said the U.S. and UK were working to agree on lower tariffs for steel and autos, two sectors that have been hit by 25% U.S. levies. In return, Britain is likely to agree to lower its own tariffs on U.S. cars and cut a digital sales tax that affects U.S. tech groups.
The status of a 10% "baseline" tariff imposed by Trump on most countries including Britain remained unclear.
Awaiting a widely-expected quarter point UK rate cut later today, sterling appeared to shrug off the anticipated trade announcement. But the FTSE 250 index of domestically facing mid-cap stocks rose almost 1% on the news to its highest point since late February.
Meanwhile, the Federal Reserve chose not to change interest rates on Wednesday, a decision that was widely expected. The U.S. central bank flagged the high level of uncertainty ahead, arguing that it made it challenging to make any confident changes to policy or guidance.
Embattled Fed Chair Jerome Powell highlighted the risk that trade upheaval could lift both unemployment and inflation, creating tensions in the Fed's dual mandate on jobs and price stability.
"I don't think we can say which way this will shake out," Powell said.
But Wall Street stocks ended higher nonetheless, emboldened by hopes that the week ahead will see at least some easing of planned U.S. tariffs amid expected deals with Britain and others as well as weekend talks in Switzerland with China.
U.S. stock futures extended those gains overnight along with a broad advance in European and Asian bourses.
Although the first-quarter U.S. earnings season has been sideswiped by suspended outlooks and foggy guidance due to the looming tariffs, estimated annual profit growth for S&P 500 companies during the first three months is running at 14% - almost twice what it was on April 1 and above the 12% forecast for the first quarter made at the start of the year.
Elsewhere, US Treasury yields were steady to a touch higher after the Fed meeting, with $25 billion of 30-year bonds up for auction later on Thursday.
The dollar index was slightly firmer, with the euro flirting with its lowest level in almost a month and China's offshore yuan slipping after this week's latest monetary easing from the People's Bank of China.
Elsewhere, central banks in Sweden and Norway kept their interest rates on hold.
Regional markets were unnerved by the escalating conflict between India and Pakistan.
Trading was halted for an hour on Thursday at the Pakistan Stock Exchange after the benchmark index plunged as much as 6% following reports of drones being shot down in major cities including Karachi and Lahore.
That came a day after Indian strikes on multiple targets in the country fanned fears of a larger military conflict between the nuclear-armed neighbours.
The Indian rupee, equities and bonds also weakened in late afternoon trading there.
Europe braces for transatlantic capital reverse
Europe may be better prepared to absorb a seismic shift in global investment flows than many assume, as a number of regulatory twists are set to bolster euro market depth.
Trump's unilateral redrawing of world trade rules is raising the question of whether giant U.S. capital surpluses will have to unwind if tariff hikes succeed in squeezing America's persistent trade deficits.
For macro-economists, those are two sides of the same coin.
If the administration succeeds in rebalancing the U.S. economy, defusing dollar over-valuation and regaining the country's manufacturing edge, that will have to involve some shrinkage of the roughly $26 trillion U.S. Net International Investment Position, the excess of foreign capital in U.S. assets over U.S. investments overseas.
During March and April, there was considerable concern that foreign capital flight was indeed underway as U.S. stocks, bonds and the dollar fell in tandem. The sell-off was driven by mounting anxiety about the potential for a self-inflicted U.S. recession or stagflation, fraying U.S. institutions and the dollar's role as a safe haven.
At the same time, the euro and euro stocks soared, in part due to Germany's equally dramatic new spending and borrowing plans that reignited hopes for longer-term growth and an expanded pool of high-quality debt assets.
But doubts lingered about whether Europe's smaller and shallower capital markets could ever accommodate a repatriation of the deluge of savings that have poured into U.S. assets over the past decade-plus. Some $7 trillion in European savings has flocked to Wall Street equities since 2012.
Indeed, many reckon American markets attracted such vast sums as much because of their unrivalled scale and liquidity as any 'exceptional' American economic or corporate performance per se. In turn, the euro's smaller and more fragmented markets have raised doubts about whether the currency could ever challenge the dollar's wide usage.
NOT JUST 'NICE TO HAVE'
But this relative imbalance is not set in stone, especially if Europe's markets develop apace alongside a push to meet post-pandemic and Trump-linked challenges with a more "high-pressure" economy and industrial policies.
TS Lombard's Davide Oneglia argues the Trump trade shock has underlined the urgency of last year's report from former European Central Bank chief Mario Draghi on measures that the EU needs to pursue to keep up with bigger economic rivals.
And, evidenced in part by Germany's fiscal bazooka this year, EU leaders are now acutely aware that Draghi's demands were not just 'nice to haves', including financial market reforms.
Oneglia highlights Draghi's conclusion that some 80% of the money required for transformation of European competitiveness will need to be financed by the private sector.
And on that score, some progress appears to be underway.
"EU policymakers finally appear to be getting serious about integrating and deepening European financial markets," Oneglia wrote this week.
BROADER, DEEPER, WIDER
Oneglia pointed to two specifics that should help expand long-term institutional investment across European markets.
First is reform of "Solvency II" regulatory rules governing the 10 trillion euro insurance industry. This could free up additional capital and allow a wider pool of public and private equity to be invested in the continent.
The second measure is a "wildly underreported" push to channel large European private savings into capital markets by developing a more expansive private pension industry across the region.
On the latter, the European Commission this year rebranded the old Capital Markets Union as the Savings and Investment Union. The private pension push accompanying this is likely to involve requirements for things like auto-enrolment in pensions and targets for national implementation as soon as this year.
In that spirit, Germany's new government has also made developing private pensions a priority.
Why this matters is that European households currently hold about a third of their savings in cash and deposits, more than twice the share U.S. households hold. And German savers are the most extreme, with more than 40% of their financial wealth in cash.
Channeling these savings into institutional investment funds will go a long way to deepening European markets.
Of course, a crush of untapped savings and returning overseas investment could flood European markets too quickly, saddling the region with an overvalued currency - the very issue America has fretted about for the past decade.
Be careful what you wish for, as the old saying goes. "Exorbitant privilege" may not be all it's cracked up to be in that scenario.
Europe has to decide how to manage those investment flows as well as what to do with the finance.
Chart of the day
The Bank of England is expected on Thursday to nudge its main interest rate below the Federal Reserve's key rate for the first time since August. This will restore the U.S. rate premium that's existed in all but a brief period over the past decade. Markets now expect three more cuts from both central banks over the remainder of the year.
However, after a fresh wobble in British government bond yields earlier this year, 10-year gilt yields are now almost 20 basis points above U.S. Treasury equivalents, though that gap has roughly halved in the past month.
Today's events to watch
* Bank of England policy decision, press conference and monetary policy report
* U.S. weekly jobless claims, Q1 productivity and unit labor costs
* Bank of Canada governor Tiff Macklem speaks
* US corporate earnings: ConocoPhilips, Paramount Global, News Corp, Warner Bros Discovery, Expedia, Match, Molson Coors, Sempra, Tapestry, Alliant, Insulet, Viatris, Microchip Technology, Mckesson, Monster, Akamai, Solventum, TKO, Federal Realty, Epam, Kenvue
* U.S. Treasury sells $25 billion 30-year bonds
Opinions expressed are those of the author. They do not reflect the views of Reuters News, which, under the Trust Principles, is committed to integrity, independence, and freedom from bias.
(By Mike Dolan; Editing by Anna Szymanski and Gareth Jones)
