Money markets confident on ECB rate rise

Money markets are confident of a July rate hike by the European Central Bank, with the prospect of a solution to Greece's solvency problems limiting the risk of a dovish surprise at this week's policy meeting. Overnight rates are pricing in an 80-90 percent chance that the European Central Bank will raise rates for the second time this year in July, taking the refinancing rate to 1.5 percent, analysts said.
That view has been buoyed by the increasing likelihood that Greece will receive a second bailout package to cover its funding shortfall, averting an unprecedented eurozone default that had threatened to wreak havoc on interbank markets. "The patient (Greece) is 'doomed', but for the European banking system it is vital it doesn't die just yet," said BNP Paribas rate strategist Matteo Regesta.
ECB President Jean-Claude Trichet is expected to use the words 'strong vigilance' on inflation at Thursday's monthly meeting, which the market interprets to mean a hike will come in the following month. Further out along the money market curve, uncertainty persists over the pricing of rate hikes later in the year. Another hike by December is almost fully reflected in the overnight rate derived for the ECB's last meeting of the year, but expectations vary over which month would see rates rise.
That is likely to be influenced by the global economic outlook, analysts said, after a string of weak labour market and manufacturing indicators pointing to problems for the economy of the United States. Doubts over the US economic outlook and the strength of the euro zone's weaker economies mean it is too difficult to pin down when a third hike will come, creating a trading opportunity, said Royal Bank of Scotland strategists. With the market currently showing a bias towards a rate hike in October, RBS recommended initiating a trade to capitalise on a potential narrowing of the spread between September and October's expectations on the back of increased uncertainty.