While the stock market have been optimistic, witnessing a Trump-rally in last few months, sentiment on bond markets has been driven by fears concerning the future of the euro zone. Either of these two equally politically driven markets will soon face its moment of truth.
Looking at the economic data currently available, the stock markets' optimism may be justified. Despite the fact that the economic policy of the new US administration is neither sufficiently developed nor plausible, the economy in the US – and increasingly in the euro zone – is in a good shape. This would be true even in the absence of (additional fiscal) stimulus. Purchase manager indices have shown readings that strongly signal further expansion, even in countries like France and Italy that so far have shown disappointing growth figures. Unemployment rates and deflationary threats have decreased, demand for credit has increased and real interest rates are low. Hence, the crucial question for the economic outlook is not whether there will be (more) stimulus, for instance via tax cuts in the US. Rather, the question is: To what extend could politics hurt the economy?
The common denominator of these threats is nationalism: In the US it comes in the disguise of protectionism, in the European Union in the form of secessionism. Within the next three months, the elections in the Netherlands (17 March) and France (23 April and the run-off on 7 May) will make clear how strong these forces really are. Although the Brexit negotiations, the elections in Germany (September) and Italy (2017/2018) also are sources of uncertainty, France – whose financing spread has tripled in the past six months because of the increasing fortune of Marine Le Pen – will be the decisive factor determining whether the bond markets will emulate the current optimism of the stock markets.
The new administration in the US remains a source of uncertainty. Because modern value chains are highly globalized, US protectionism would not only hurt foreign industries, but also domestic producers. This gives reason to hope for pragmatic solutions. And the odds are high that “sell in May” could be the right choice for the safe haven of the bond markets rather than the stock market. After all, in addition to favorable macroeconomic data, corporate profits are up and low real rates imply that stock prices - although they have already risen considerably – may not be overvalued.
Author:
Uta Pock
Head of Research
VOLKSBANK WIEN AG
1 March 2017
Note
Wiener Börse AG would explicitly like to point out that the data and calculations given in this report are historic values, which do not permit any conclusions as regards future developments or value stability. Price fluctuations and loss of capital are possible in securities trading. The contribution is the personal opinion of the analyst and does not constitute a financial analysis or a recommendation for investment by the exchange operating company, Wiener Börse AG.