Stocks, euro gain as Fed, ECB rate hike outlooks diverge

Global equity markets surged on Monday as easing recession fears and hopes of a less aggressive Federal Reserve buoyed sentiment, while the likelihood of more jumbo interest rate hikes in Europe pushed the euro to a nine-month peak against the dollar.

Gains in chipmakers boosted beaten-down US tech stocks as the market priced in a 95.8% probability of the Fed raising rates by 25 basis points to a range of 4.50% to 4.75% on 1 Feb. 

Easing fears of a recession also helped lift equities, as they did in the euro zone, despite expectations the European Central Bank will hike rates by 50 basis points both on 2 Feb and in March, according to a Reuters poll of economists.

The start of a big week for US corporate earnings is expected to test a recent bounce in tech and other growth stocks as companies discuss their outlook amid a slowing economy.

Stocks are rallying as people mistakenly believe a proximate change in Fed policy will resolve worries about higher rates and their impact on the economy, said Jason Pride, chief investment officer of private wealth at Glenmede in Philadelphia.

"We are already at a point where if we stick at these numbers and hold them for a period of time, it is not good for the economy," said Pride, referring to rates that he believes are now "restrictive" and squeezing economic growth.

"This is like other market rallies that we've seen within an ongoing bear market in that you have these periods of optimism seep in because people think that the story is changing enough that the problem is gone," he said.

The Dow Jones Industrial Average rose 0.76%, the S&P 500 gained 1.19% and the Nasdaq Composite added 2.01%, extending gains since late last month to more than 11%.

In Europe, technology firms also spearheaded gains as optimism about Europe likely avoiding a steep recession overshadowed recent hawkish remarks from ECB officials.

The pan-European STOXX 600 closed up 0.6%, as declining natural gas prices eased recession fears.

Trading was thin in Asia, as markets in China, Hong Kong, Singapore, Malaysia, South Korea and Taiwan were closed for the Lunar New Year holiday.

MSCI's US-centric all-country index of stock performance in 47 countries rose 0.99% to close at an almost five-month high.

Investors are waiting for euro zone and US flash PMI data on Tuesday, which are expected to show less severe economic contractions than the previous month, according to analysts polled by Reuters. The data is forecast to show more improvement in Europe than in the United States.

The difference in expectations for Fed and ECB policy led the euro to hit $1.0927 as it climbs from a two-decade low of $0.953 set in September. The single currency later pared gains against the dollar as it slid to $1.0869.

"The combination of a risk-off mood in the stock market and the divergence between the Fed and ECB allowed the euro to make new highs above 109," said Marc Chandler, chief market strategist at Bannockburn Global Forex in New York.

Sterling GBP= traded at $1.2375, down 0.15%, while the Australian dollar, seen as a proxy for risk appetite, rose 0.86% to $0.7026. The Japanese yen weakened 0.83% at 130.67 per dollar.

Treasury yields rose to further erode a recent bond rally that some investors say was overdone in reflecting fears that the US economy may soon enter a recession.

The yield on 10-year Treasury notes rose 3.7 basis points to 3.521%.

Euro zone bonds were little changed, with the benchmark 10-year German yield at 2.209%.

Crude prices settled mixed, retreating as investors cashed in on a jump to a seven-week high on optimism about a possible recovery in demand at top oil importer China, as the economy recovers this year from pandemic lockdowns.

Brent crude LCOc1 settled 56 cents higher at $88.19 a barrel. US crude CLc1 fell two cents to settle at $81.62.

US gold futures GCv1 settled little changed at $1,928.6.