European markets bounce back in bargain hunting

European stock indices saw a strong reversal from the previous few days of losses on Wednesday, with the FTSE, DAX and CAC rallying between 3% and 3.8% as traders attempted to use the recent weakness to pick up stocks a lower levels.

Whilst today’s stock price bounce is certainly welcome and encouraging, it needs to be taken with a pinch of salt as there has not been a dramatic change of sentiment over night. Whilst the ruling by the German constitutional court to reject blocking Germany’s contribution to the eurozone bailout packages was positive, there were few in the market who believed that this decision would not come. As such, this has not been the trigger for today’s gains, which were already well on their way before the ruling was made.

What we have therefore is a classic situation whereby the recent deep share price falls have attracted the sharks and the key now will be to see whether this rally has legs or not. One of the factors that may convince investors to buy stocks in the long term could be optimism that the Fed may announce some form of quantitative easing in the next FOMC meeting in a few weeks time.

If the FTSE 100 can break through and consolidate above technical resistance at 5450, the same level where investors recently gave up gains at the start of this month, then that could certainly help to breed more confidence into the markets. Certainly the fact that we have seen a correction in the price of gold over the last 48 hours, which fell back towards the $1800 level, and with 10-year US Treasury Yields rising back above the 2% level, helps to convince that maybe investors are willing to recycle funds out of safe havens and back into stocks, at least in the short term.

One of the big positives to take from today’s session has been a recovery in the prices of key UK banks such as Barclays and Lloyds, whose share prices bounced higher by 6% after recent heavy falls. Similar rallies were seen in European banks such where Societe Generale rose near 3%.

Considering the uncertainty over banks at present in the midst of charges relating to sub prime mortgage selling, potential downgrades to come from ratings agencies and exposures to sovereign debt, the reaction today is immensely positive but we need to see these gains hold and form a base upon which more gains could come.

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