Markets start to focus on European political instability

Markets are struggling to establish a pattern, with equities mixed, forex choppy and wilting sovereign bond yields pointing to fading bets on the “Trumpflation trade”. The euro has pared losses, but Bunds and gold are attracting buyers amid lingering concerns about the continent’s political mosaic.

Worries about Europe are back on the radar, with upcoming elections and signs of renewed stress over Greece’s bailout causing nervousness among forex and fixed-income traders.

French sovereign bonds have been under pressure of late amid growing concerns that Marine Le Pen, the anti-euro, far-right leader, could claim victory in the country's approaching presidential election. Investors are wary this could embolden anti-EU movements in forthcoming polls across the continent, creating uncertainty about the euro zone project.

The yield on the 10-year French bond, which moves inversely to the price, was down six basis points at 1.04 per cent after touching 1.135 earlier on Wednesday.

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As money moves into the perceived haven of German Bunds, pushing the benchmark yield down six basis points to 0.30 per cent, this leaves the Franco/German yield spread, the premium Paris must pay to attract investors, at 74 basis points, not far from its highest in four years.

Meanwhile, Greece’s two-year bond yield fell 45 basis points to 9.48 after earlier on Wednesday breaching 10 per cent as the market fretted that disagreement within the IMF about Athens’s bailout package could spark a fresh bout of debt angst.

Under pressure

The euro was under pressure for much of Wednesday, flirting with a two-week low having fallen almost 1 per cent over the first two days of the week. However, the common currency has reversed its losses into the Wall Street opening.

So far European stocks do not seem especially bothered by the euro’s existential angst, instead welcoming the benefit provided to exporters by a softer currency. The Euro Stoxx 600 index was flat on Wednesday but in sight of a 13-month high.

The mood in Asia was more upbeat. Japan’s Topix rose 0.5 per cent, while Australia’s S&P/ASX 200 gained 0.5 per cent and Hong Kong’s Hang Seng added 0.7 per cent.

China’s Shanghai Composite was up 0.5 per cent, while the technology-focused Shenzhen Composite added 0.8 per cent.

The US dollar index (DXY) pulled back from its initial advance on Wednesday, currently down slightly at 100.22. The DXY has risen in each of the previous five sessions in a sign that the “Trump trade” – a bet that the new US president will boost the economy and lead to a faster pace of interest rate rises by the Federal Reserve – is back on track.

Political uncertainty

“The market’s increased focus on rising political uncertainty in Europe has also helped to improve the relative appeal of the US dollar,” said Lee Hardman, currency strategist at MUFG.

The increasingly cautious tone in markets is lifting demand for highly-rated sovereign debt. The yield on the 10-year US Treasury was down four basis points at 2.35 per cent on Wednesday, and the more policy-sensitive two-year note was two basis points softer at 1.15 per cent.

Oil prices were again under pressure as investors fret that a recent production cut by Opec and other big drillers is being counteracted by additional US output. Brent crude, the international benchmark, was down 0.5 per cent to $54.75 a barrel, near a three-week low, and West Texas Intermediate was off 0.8 per cent to $51.75.

Copper was up 1.6 per cent to $5,897 a tonne after workers voted to strike at Chile’s Escondida, the world’s biggest copper mine.

Gold is revelling in the euro zone political concerns and falling bond yields to gain 0.6 per cent to $1,241 an ounce, a three-month high. – (Copyright The Financial Times Limited 2017)