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WEEKLY – Investment Adviser – 4 September

PERFORMANCES 2019

EquitiesBonds
MSCI World+12.9%CHF Corp+4.2%
S&P 500+15.9%US Govt+8.9%
Stoxx 600+13.7%US Corp+14.1%
Nikkeï+3.2%US HY+10.9%
SPI+23.5%EUR Gvt+10.8%
Chine+29.1%EUR Corp+8.1%
Emerging+0.8%EUR HY+8.0%
CurrenciesCommodities
USD index+2.8%Gold+19.8%
EURUSD-4.2%Silver+24.1%
EURCHF-3.6%Brent+8.7%
USDCHF+0.6%CRB index-0.4%
USDJPY-3.1%
EM FX-3.4%

Over-playing?

Key populist leaders on the back-foot

Bolsonaro has created damage to Brazil’s image. The problem is even starting to tentatively impact on foreign capital inflows. Indeed, international institutions are growingly considering ESG criteria among discriminant factors when investing. For instance, a large Scandinavian asset management company decided to quarantine Brazilian government bonds, in response to Amazon fires. The ratification of the Mercosur agreement by Europe is also under review. A referendum against this agreement is looming in Switzerland… In this context, Bolsonaro back-pedalled lately. His prohibition for two months of slash-and-burn farming is good news (at least for the environment…).

M. Salvini’s bluff is – at least temporarily – backfiring. He might probably neither force the organization of Italian early elections, nor become Prime Minister in 2019. For sure, the new odd couple between 5 stars and the Democratic Party will be unstable. His time may come later, but who knows!?

B. Johnson is manoeuvring hard to go in force. Shutting-down Parliament for 5 weeks ahead of the crucial Brexit deadline. UK falls into political chaos and the mother of all modern Parliamentary democracy is under strain. Brexiteers are actually selling the Democracy down the river in the name of … the people! What a weird way of ¨restoring the sovereignty of the United Kingdom’s Parliament¨. BoJo is obviously manoeuvring to capture Eurosceptic Brexit Party votes and get closer to Trump’s sphere.

More political chaos is likely in the UK, whatever scenario unfolds

Poll realised as of August 27th 2017

But in practice, a tentative trade deal with the US would not compensate for the preferential trading relation with Europe. Under a no-deal Brexit, Britain would become dependent of US “volatile” President. The Union would probably face existential challenges with Wales, Scotland and Northern Ireland.

Tariff man, i.e. President Trump, lost traction compared to late 2018 /early 2019. Being in power now for a couple of years, he stands ahead of his Brazilian or European peers in the political cycle. Just like any politicians, populist leaders pain at delivering on their promises, when actually in power. This is probably even more so an issue, provided the unrealistic / demagogic nature of their programs. A more delicate phase has probably started for flamboyant / disruptive populist leaders. Lately, “Ecologic transition” has indeed proven able to capture part of the people resentment.

Time will tell if a – partial – phenomenon of electoral interconnected vessels may occur between the populist and ecologic parties

  • A window of opportunity is opening up for ecologist (and possibly traditional) parties to confront populists
  • But it is too early to extrapolate on recent setbacks of populist leaders
  • The consequential elevated political uncertainty will continue to impair economic developments
  • ESG and ecologist investment themes will continue gaining traction

 

Fixed income. Too high expectations

Just like the PMI, the European economic sentiment indicator recorded a surprise increase in August. This is a marginal improvement. Industry saw sentiment recover a little as the deep decline in production, that the industry experienced in July, reversed in August. The modest gain suggests some stabilization, but with downside risks aplenty, it does not provide much reason to become more hawkish ahead of the big September decision on stimulus. European headline inflation is at 1.0%, with core inflation at 0.9% in August. There is no sign of upward pressure. With selling price expectations more or less steady, the ECB has not received many indications of an improving core inflation outlook.

However, ECB officials have been vocal ahead of the September 12th meeting. Board member Lautenschlaeger became the latest policymaker to add her voice to those saying the time is not the right timing to restart the QE program. Governors Weidmann and Knot mentioned earlier that the outlook is not weak enough to resume bond buying.

Incoming ECB President Lagarde signalled on her side policy continuity. Mirroring the official ECB communication, she said the institution has the tools to tackle a downturn and has not yet hit the lower bound on interest rates

  • Quite different messages are emerging. Reducing bets on the ECB looks appropriate
  • The hawkish rhetoric ahead of the next meeting could be viewed as somewhat at odds

 

Fixed income. Conte 2.0

Italian President Matarella tasked Prime Minister Conte to form a new coalition with the Five Star Movement and the Democratic Party, as both have agreed to form a government. Now the hard work begins. The coalition will quickly need to find huge savings for the next budget. Italian 10-year yield broke below 1.0% for the first time ever supported by the new coalition formation and the prospect of a new QE announcement by the ECB. A final hurdle still needs to be cleared by getting support for the tie-up amid Five Star members in an online vote. The recent decline in bond yields will help narrow the shortfall. This decline will only reduce next year’s debt servicing costs by EUR 2bn. Italy has about EUR 270 bn in debt that will mature next year. Spending cuts or tax hikes will have a bigger role.

Italian government debt maturity profile (EUR bn)

Source: Bloomberg

The coalition has not said much about their plans for next year budget. It will probably repeal the VAT increase to 25.2% in 2020 from 22% in 2019. Most Italian politicians are against this measure. That means the new coalition should find EUR 20bn in savings to appease Brussels. Conte has pledged his new government will be committed to European and Atlantic alliances and will probably adhere to the commitments made by Italy earlier this year. Challenges remain manifold.

10-year Italian-Germany spread

Source: Bloomberg

  • The deal reduces the risk of another clash with Brussels over the 2020 budget and rating downgrades
  • A lot of good news are already discounted in Italian bonds. Take profit on Italian bonds

 

 

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