At the European Central Bank (ECB) meeting, President Mario Draghi unveiled a broad and deep package of easing designed to re-anchor inflation expectations in the single currency union.

The ECB cut the deposit rate by 10bp, re-started its quantitative easing (QE) programme by EUR 20bln/month, and modified its TLTRO¹ lending modalities to further support credit lending. The main surprise was the bank leaving QE open-ended, as opposed to market expectations of a 9 to 10 month fixed period. To buffer the banking sector from the damaging effects of negative rates, the ECB also introduced a two-tier system for reserve remuneration.

There had been some skepticism in the market (driven by comments from a few Governing Council members) that Draghi may not be able to deliver an easing package, which he effectively committed to in July. Indeed, we would argue the sell-off in rates driven by such skepticism in fact helped Draghi over-deliver on expectations with the current package. Over-delivering would have been relatively tougher when 10 year Bund yields dipped below -0.7%.

The package and accompanying comments from Draghi show that the ECB remains committed to providing support to the Eurozone economy and re-anchoring inflation expectations against a backdrop of what Draghi characterized as “persistent and prominent downside risks”. The open-ended nature of the current QE programme now firmly places the ECB in the Bank of Japan’s (BoJ) company. One of the main decisions incoming President Christine Lagarde will need to make is re-assessing issuer limits and the variety of assets the central bank can purchase going forward.

We believe it is only a matter of time before equities are considered a potential QE target (similar to the BoJ), even if we remain skeptical that monetary policy alone can fix the Eurozone’s low inflation problem. Given a continuation of what we see as the “Draghi paradigm”, we expect Lagarde to continue Draghi’s legacy by pushing forward with broadening the scope and depth of the asset purchase programme (the central bank’s main easing tool) in coming months. While we expect deposit rates to be cut further, we also recognise that the effective lower bound makes rate cuts less impactful. Thus we see the ECB heavily relying on asset purchases for further accommodation.

Investment implications

The recent sell-off in rates is likely to stabilize at present, in our opinion. Going forward, we expect both nominal and real rates to remain very low, with occasional bursts of technically-driven moves.