Debt woes, China inflation overhang recovery

Debt woes on both sides of the Atlantic and new signals from China on inflation dangers weighed on markets on Tuesday, though strong earnings saw European shares claw back some of the previous day's losses.

Greece sold 1.6 billion euros of three-month debt, but was forced to pay more than 4 percent, underlining growing unease in the market over a potential restructuring.

The dollar was weaker against a basket of major currencies .DXY after climbing on Monday as investors engineered a classic rush to safety even as Standard & Poor's threatened to downgrade U.S. debt.

European stocks .FTEU3 bounced back, but only in the context of having fallen nearly 2 percent on Monday as the investor mood remained cautious. Japan's Nikkei .N225 closed down nearly 1.3 percent.

S&P stirred up investor concerns on Monday when it changed its outlook on the United States to negative from stable, threatening the future of its prized AAA credit rating.

The threat brings into focus the huge U.S. budget deficit and the difficulty that Washington has in paring it down. The deficit is a key element in the global imbalances that currently worry many investors and policymakers.

There was no direct reaction to the S&P move on Tuesday from Beijing, which -- in counterpoint -- holds vast reserves of U.S. Treasuries, though the head of China's central bank said the country should diversify investments as its some $3 trillion of foreign exchange holdings had grown too large.

Another Chinese ratesetter said inflation pressures gave further scope for a rise in banks' reserve requirements following seven hikes -- together with four increases in benchmark interest rates -- since last October.

"Discussions on the U.S. losing its AAA-status have been active for two years, if not longer. S&P's move might have been a jolt, but should not really be a true surprise," said David Watt, senior currency strategist at RBC Dominion Securities.

Equity investors, meanwhile, focused on the earnings season.

In Europe, there was some boost from LVMH (LVMH.PA) and Burberry (BRBY.L), which both beat consensus forecasts.

But results lay ahead in the United States from banking heavyweight Goldman Sachs (GS.N) and technology bellwethers IBM (IBM.N) and Intel Corp (INTC.O).

The FTSEurofirst 300 .FTEU3 was up half a percent.

"We were hit down big time yesterday and I expect to see some bargain hunting," said Simon Clark, trader at ETX Capital.

"But, we have Goldman Sachs (GS.N) later and there could be some caution before that. One negative comment from anyone and we could be back down."

Euro Stablises

The euro recovered somewhat from the previous day's sell-off, but the region's debt problems remained in focus and Euro zone core bond yields rose .

The single currency edged up to $1.4270.67. Overall, it has pulled back sharply, having hovered at a 15-month high around $1.4520 for the past week.

"The European debt crisis is in the market's focus again, and people are concerned there is no lasting solution. Meanwhile, even negative news in the U.S. isn't putting too much pressure on the dollar anymore," said Lutz Karpowitz, currency analyst at Commerzbank in Frankfurt.

[Source: By Jeremy Gaunt, European Investment Correspondent, Reuters, London, 19Apr11]

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