Markets clear German hurdle, Italy up next

Monitoring Desk

LONDON: The revival of Germany’s grand coalition should aid stability and keep the euro zone’s plans for tighter fiscal union on track, investors and analysts said as months of political uncertainty ended on Sunday. Germany’s Social Democrats (SPD) voted decisively for another tie-up with Chancellor Angela Merkel’s conservatives, clearing the way for a new government in Europe’s largest economy more than five months since the country’s inconclusive election.

Two thirds of the SPD membership voted“yes” to the deal, a party official said, meaning Merkel could be sworn in for a fourth term by mid-March in a repeat of the grand coalition that has governed since 2013.

Financial markets won’t be open in any meaningful sense until Asian trading begins around 1000 GMT, but the initial reaction from investors suggested the German deal should support the euro, stock and bond markets. “This is the outcome that markets have been crossing their fingers and hoping for,” said James Athey, a senior investment manager at Standard Life Aberdeen, adding that it was“by far the least disruptive outcome”.

“While it by no means answers all the policy questions at either the German domestic nor European level, it certainly provides a more stable base from which to address the many issues at hand.” Traders went into the weekend betting on a higher euro, data from the U.S. Commodity Futures Trading Commission showed on Friday. The currency is seen as the most sensitive gauge to euro zone politics and the value of net long euro positions — betting on the currency rising — climbed to its highest in three weeks the figures showed.

“It is probably good news in terms of the capacity for Germany to open up to (French President) Emmanuel Macron’s proposal for the future of Europe,” said Bank of America Merrill Lynch’s Chief European economist, Gilles Moec.

Macron’s office in Paris said:“France and Germany will work together on new initiatives in the coming weeks to bring the European project forward.”

German business also greeted the result with relief. The wait for a government since September was the country’s longest post-election interregnum.

“While the United States is starting a trade war and China is challenging our industrial leadership, we have been unnecessarily self-absorbed,” said engineering trade union VDMA’s managing director, Thilo Brodtmann.

ITALY NEXT

It wasn’t only Germany that investors were looking at on Sunday though.

Italy was holding an national election under a complex new voting system that has made the outcome even trickier than usual to predict.

Pollsters generally expect a hung parliament, with former prime minister Silvio Berlusconi’s alliance of center-right groups emerging as the largest bloc.

The anti-establishment 5-Star Movement looks almost certain to be the biggest single party, potentially complicating matters, with the various party leaders all having ruled out post-election alliances with rivals.

Italy, however, has a long history of finding a way out of apparently intractable political stalemate and markets have shown little concern in recent weeks about the prospect of a confused result.

Italian bond yields, which are a reflection of government’s credit market borrowing costs, fell to a three-week low on Friday. The gap with Germany’s borrowing costs also narrowed to the smallest in two weeks.

“I am surprised how little risk the market is pricing from this,” said Cesar Perez Ruiz, chief investment officer at Pictet Wealth Management.

That gap between Italian and German yields could shrink a little further with an center-right alliance, though there would be a heavy sell-off in Italian markets if the most anti-European parties were part of any new government, he added.

Voting in Italy started at 0600 GMT and concludes at 2200 GMT, though it could take many hours before the outcome is clear and weeks before a government takes shape.