Moody’s estimates indicate growing Frexit risk
(Yann Quelenn, market analyst)
The credit rating agency believes that a victory for Marine Le Pen, even though unlikely, is at this stage not inconceivable. A National Front victory would see Le Pen calling a referendum on the exit of the European Union. Moody’s further warns that a return to the franc would push France to default as government bonds would need to be converted into francs causing them to depreciate. We feel that Moody’s prediction is little exaggerated, especially when we consider other European countries such as Greece. Greece does not need to exit the Eurozone to be in big trouble as it already hangs in the balance due to its never-ending austerity policies. Whatever the outcome of the French elections, one thing is certain: the new president will inherit a country with a ratio debt-to-GDP over than 100%! A Frexit would also push other European countries’ bond yields and grades higher and weaken the single currency.
Dutch Elections - Further Uncertainty Risk
(Peter Rosenstreich, head of market strategy)
Wednesday 15th March brings a critical litmus test of the European political landscape. The Dutch general elections will provide a gauge of the populist sentiment in the Eurozone. The race between the mainstream VVD party and anti EU PVV party remains close. According to recent polls, PVV had lost ground yet events surrounding Turkey’s President Erdogan, might have inflamed immigrant issues, supporting the PVV policy stance. Yet, due to the nature of the political structure of the Netherlands even a resounding PVV victory is unlikely to have immediate implications for the EU and Euro. The reason is that the mainstream parties that the PVVl need to build a coalition have ruled out forming a government with Geelt Wilder, suggesting that the VVD will continue to head any coalitions. Of course this is politics 2.0 and anything can happen (a strong showing by PVV entices parties to reverse alliances or PVV will become diminished by the historically liberal nation). However, regardless of the actual outcome the key result is likely to indicate a fragmented government and sustained threat to EU. For markets this is the biggest immediate risk, a Brussels frozen by uncertainty. Any gains in Euro (due primarily to shifting expectations for ECB monetary policy) will likely be tempered by the politically landmine filled event calendar. A positive outcome in the Netherlands will only lead to French and German elections and now the destabilizing potential Scottish independence referendum. EURCHF remains the key FX trade to hedge an anti EU outcome.
Markets won't stress Article 50
(Peter Rosenstreich, head of market strategy)
Will May trigger Article 50 or not? That is the question. No idea. For us any real view would be a blind point. This unique event with no historical precedence provides no edge to work with. However, in our view the event will have a limited effect on GBP. First the immediate devaluation of the sterling post Brexit referendum provides protection for further downside. Second, the markets are now completely aware regarding the reality of Brexit and no longer spooked by the prospect of even a “hard” separation. Finally, the resiliency, no the strengthening of the UK economy has us considering long sterling as the best long term currency trade of 2017. In regard to the BoE, the March MPC will be a non-event. We expect no change on policy stance and expect unanimous voting to all instruments and policy strategy. For the minutes, we expect no real shift in tone (especially since Feb PMC and inflation report was just a few weeks ago), and will sound hawkish around inflation. But due to transitory pressure any overshot of CPI above target is likely to most volatile elements and unsustained.
Markets ahead of US economic reality
(Peter Rosenstreich, head of market strategy)
The strong payroll report and hawkish Fed messaging all but secured a 25bp hike this week. Yet the FOMC’s confidence seem to be based more on sentiment indicators and massive rally in equity markets rather than actual economic data. While there have been bright spots, lagging inflation data and weak wage growth suggest not everything US economic is humming. It’s likely that the rhetoric from the Fed and sudden repricing of the policy path with four 25bp hike in 2017 is overdone. We suspect that growing possibility that growth will remain subdued longer than market expectations. The fact that real wage growth actually went negative indicates that fear of inflation surging is unlikely. US short-end yields peak and now declining, while USD has been broadly been sold indicating that the market is having a difficult time believing that 1.8% GDP growth will trigger sustained core inflation, hence limiting the speed at which the Fed can move.