German Groko coalition under threat
Following weaker PMI in manufacturing and composite (i.e. industry and services) given at multi-year low and an unexpected slowdown in Ifo business climate indicator for the month of October, it appears that German GDP growth stagnated in the second half of 2018, after Q2 y/y figure estimated at 2.30%.
Indeed, as the Eurozone is facing the same downward trend due to continued drop in exports along with continued geopolitical issues, German politics is showing signs of exhaustion. After losing more than 10% of suffrages in Bavarian state election two weeks ago, the big coalition “Groko” ( composed of CDU/CSU and SPD) lost a significant amount of votes in Hesse, losing more than 20% of prior year votes (CDU/CSU: -11.30%, SPD: -10.90%), putting additional pressure on German Chancellor Angela Merkel and undermining the Berlin coalition. This ultimately raises questions from investors who wonder whether Germany will be able to maintain a stable government.
However, despite current situation, there is a rather small likelihood to see left- or right- populist party taking the lead, unlike Italy’s anti-establishment coalition, thus not causing systemic risk for the monetary union.
Accordingly, the EUR/USD current drop remains mainly German state election induced. We therefore expect the single currency to weaken further along 1.1360 short-term.
Brazil shifts to the right – Will BRL gain momentum ?
It has been a slow start to the week in the FX market as most currency pairs were little changed during the Asian session. With the exception of the New Zealand dollar that rose 0.70% against the buck. NZD/USD jumped back to 0.6550, up 1.30% from yesterday’s low. Elsewhere, the single currency was trading sideways around $1.1390; the pound sterling eased 0.09% to $1.2815, while the Japanese yen moved back and forth around the neutral threshold with USD/JPY stabilising around 111.95.
Today, most of the attention will shift towards Brazil. Indeed, to no one’s surprise, Jai Bolsonaro beat Fernando Haddad (left wing) and won Brazil’s presidency on Sunday. Financial markets didn’t wait Sunday’s result to start pricing in the election of a market friendly president – or a lest more friendly that its opponent. On Friday, the Brazilian real rose 1.70% against the greenback as USD/BRL hit 3.6416, the lowest mark since May 24. Since mid-September, the Brazilian currency surged more than 15% against the buck, with USD/BRL falling from 4.21.33 to 3.6421, as investors gradually ruled out the possibility of Haddad election. It is difficult to say how much juice is left in the real rally. In our opinion, the most of the recovery is done as the political factor that weighted on the BRL has been priced out. The global environment will remain challenging for EM countries as the trade war between China and the US will continue to weight. In addition, rising yields in the US will increase the pressure on those countries.
