Euro Zone Summit Surprise: Is Risk Back On?

The changes to the euro zone’s bailout scheme announced in the early hours of Friday morning sparked a rally in riskier assets Friday – but analysts have warned that this may only be temporary.

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Cynics might point out that the biggest surprise after weeks of indecision by euro zone policymakers is that any decisions were reached at all.

The key parts of the announcement are the direct recapitalization of European banks via the euro zone's permanent rescue fund, the European Stability Mechanism, and bond support for Italy and Spain without extra austerity. More details are expected from a press conference at 13.00 CET (12:00 London time, 7:00 a.m. New York time).

Italian and Spanish bond yields fell, while safe haven German Bunds rose and stockmarkets across Europe rallied following the news.

“Despite the seemingly growing rift between Germany and the rest of the major euro zone governments these morning headlines are enough to cheer the markets for now,” analysts at Deutsche Bank wrote in a note.

“It seems that this summit has marked the point where the weaker countries are feeling that their situation is bad enough that brinkmanship is more attractive than it has been in the past. This is creating more tensions in Europe than there has been for some time but might help bring things to a head more,” they added.

Yet previous risk rallies following euro zone decisions have been short-lived and several analysts warned that this could be the case with today’s rally.

Analysts at Sarasin warned “the storm is not over yet” in a research note. They argued that the expected slowdown in corporate earnings for the third quarter, caused by the uncertainty around the euro zone debt crisis, is still on its way and said that their company would stick to German equities ahead of core Europe.

Jose Wynne, head of U.S. foreign exchange strategy for Barclays Capital, said that he would advise “fading” any rally in the euro and predicted a weaker euro in the medium-term.