1. Tres bien ensemble
The potential for extreme market volatility after the first round of the French presidential election is huge. The euro down to $0.90, European stocks plunging as much as 35%, French/German bond yield spreads blowing out to 300 bps. These are all potential market outcomes depending on the final result, analysts at top banks reckon. The election is a “volcano” risk, according to Citi, with the “nightmare” scenario being a run-off between Marine Le Pen and Jean-Luc Melenchon. In terms of language, at least, analysts at Nomura go further: a Le Pen presidency, given her desire to take France out of the euro, would be the “nuclear” option. Of course, none of that might happen and the coming week could see a relief rally across the board. But traders are taking no chances. One-week euro volatility chalked up its biggest rise on record in the run-up to the vote.
2. ECB balancing act
Ever since the market started pricing in a potential rate hike following a relatively upbeat note at last month’s European Central Bank meeting (that bet has since been taken down), the central bank has been at pains to quell any talk of reduced stimulus. Therefore it seems unlikely that Thursday’s policy meeting, and ECB President Mario Draghi’s news conference, will be anything other than relentlessly dovish, despite pressure from German policymakers. However, with business surveys for the euro zone as a whole and France, in particular, shining this week, policymakers may have no choice but to acknowledge this in some way. If they revise their view that the balance of economic risks is to the downside in Europe – the view expressed in the last meeting, talk of “normalisation” of monetary policy may kick off again.
3. Over to Europe
Corporate report cards are due in Europe. The message from the US earnings season so far is that companies are delivering but that expectations going into the numbers were rather high. To compound this, a handful of stumbles from bellwethers such as Goldman Sachs, IBM and Johnson & Johnson have underscored fears on valuations that might have run up too far too soon. Banks, a proxy for overall sentiment on Europe, will be a particular focus with Credit Suisse, UBS and Barclays all poised to release numbers. Shares in Europe’s banks, much like their global peers, have staged an impressive rebound from last June’s lows. But after rallying 50% from those troughs, an index that tracks the sector. SX7P has barely budged in three months, suggesting a wait-and-watch approach before the coming week’s earnings and French election results.
4. Russian Juggernaut
The Russian bond juggernaut seems unstoppable, having received fresh fuel after uber-hawkish central bank governor Elvira Nabiullina said interest rates could be cut in the coming week by as much as 50 basis points. In a sign that having resisted rate cuts for months, the bank is about to embark on monetary easing in earnest – cuts by year-end could well be more than the 125 bps, according to market pricing. The reason? Annual inflation has slumped to 4.1%, just a touch above the bank’s end-2017 target. Meanwhile, 10-year yields have fallen 20 basis points in the past week to three-year lows of 7.71% RU10YT=RR. An auction of 20 billion roubles ($355 million) of 15-year OFZ fetched bids of 70 billion roubles.
5. Growing or pains
Pity the forecasters. The International Monetary Fund has raised its global growth forecast for 2017 but with a big caveat that policies that restrict trade could eat away at gains. The Fund’s latest forecast is for global growth of 3.5%, up from 3.4% in January. Data due out in the coming week will provide clues to whether this relative optimism is merited. The United States, Japan, Britain and Japan, several euro zone countries, including France but not Germany, will report first-quarter growth figures. Also of interest, the euro zone issues flash inflation data for April.
Compiled by Nigel Stephenson