Chinese shares lead global retreat after rate hike

[February 09, 2011]  LONDON (AP) -- Chinese shares led a general stock market retreat Wednesday as investors in the country returned from their weeklong Lunar New Year holiday to be greeted by the second interest rate increase in a little over a month.

Though markets elsewhere have generally shrugged off the news on Tuesday that China's monetary authorities were raising interest rates again, property stocks took a pounding in Shanghai and in Hong Kong. One of the main motivations behind the interest rate increases is to boost incentives to save as opposed to risky speculative trades.

As a result, the benchmark Shanghai Composite dropped 0.9 percent to 2,774.07 and the Shenzhen Composite Index for China's smaller, second market was off 1 percent to 1,186.22. Hong Kong's Hang Seng fell 1.4 percent to 23,164.03.

Elsewhere, stock markets, particularly in Europe, took Tuesday's news in their stride. Despite being down slightly on Wednesday, many remain near their highest levels since June 2008.

In Europe, the FTSE 100 index of leading British shares was down 0.3 percent at 6,073.80 while Germany's DAX fell around 0.1 percent to 7,320. The CAC-40 in Paris was 0.1 percent lower too at 4,106.

Wall Street was poised for a modest retreat at the open, too -- Dow futures were down 0.2 percent at 12,179 while the broader Standard & Poor's 500 futures fell 0.3 percent to 1,318.

Stocks have been buoyant of late, particularly in the U.S., where both the Dow and the S&P have pushed up above where they were in the summer of 2008, before the collapse of Lehman Brothers prompted the biggest bear market since World War II.

"Equity markets remain resilient in shrugging off a wide variety of potentially negative risks, whether it be political tensions in the Middle East, higher interest rates in emerging markets or rising inflation pressures," said Neil MacKinnon, global macro strategist at VTB Capital.

Rising inflation pressures are indeed becoming an increasingly important topic of discussion in the markets.

In a survey, Fitch Ratings revealed Wednesday that the majority of investors now see a high risk of inflation during 2011, in stark contrast to the findings three months ago, when most fretted more over deflationary pressures.

"Fitch's survey suggests that investors are increasingly skeptical that higher inflation simply reflects the one-off effects of higher food and fuel prices, and that central banks may come under increasing market pressure to 'normalise' monetary policy sooner rather than later," said David Riley, Fitch's head of global sovereign ratings.

Rate-setters at the Bank of England are beginning their two-day meeting with the knowledge that higher oil and food prices have pushed up the rate of inflation to 3.7 percent. That's far higher than the Bank's target of 2 percent.

Though some of the nine-member rate-setting panel, including governor Mervyn King, have tried to explain that the inflation spike is due to one-off factors, there are concerns in the markets that higher inflation may become embedded if wage demands start accelerating.

At the moment, the markets are pricing in a one in five chance of the Bank of England raising its benchmark interest rate from the current record low of 0.5 percent, but the fact that there is a chance, however small, has given the pound a boost in recent days, particularly against the dollar.

By late morning London time, the pound was 0.2 percent higher at 1.6081.

The euro has also been buoyed of late by mounting expectations that the European Central Bank will have to raise borrowing costs sooner than anticipated just a few weeks ago, as it tries to lower above-target inflation. Though its president Jean-Claude Trichet appeared to dampen market speculation that a move is imminent, other members of the rate-setting governing council, including Yves Mersch, have sounded a distinctly hawkish tone.

The euro gets buoyed against the dollar by rising interest rate expectations only if the Federal Reserve does not alter its super-loose policy. At the moment, there are few signs that the Fed will change course anytime soon despite growing pressure from lawmakers in Congress and non-voting Fed officials to review the current $600 billion money injection into the U.S. economy. In that context, there will be interest later on Fed chairman Ben Bernanke's testimony to the House Budget Committee.

Ahead of the testimony, the euro was trading 0.2 percent higher at $1.3649.

Earlier in Asia, Japan's Nikkei 225 stock average dropped 0.2 percent to close at 10,617.83 while Australia's S&P/ASX added 0.3 percent to 4,904.80.

Benchmark crude for March delivery was up 48 cents at $87.42 a barrel in electronic trading on the New York Mercantile Exchange, more or less what it shed Tuesday.

[Associated Press; By PAN PYLAS]

Pamela Sampson in Bangkok contributed to this report.

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