Merkel era drawing to an end

Market movers today

 A quiet start to the week in terms of economic data, with media attention set to follow German coalition talks. US durable goods orders will be released in the afternoon.

This week markets will focus on a range of Fed speakers following last week's FOMC meeting: Williams, Brainard and Evans are on the wires today. ECB's Lagarde will also give a speech in the EU parliament hearing today, and ECB will have its annual forum tomorrow and Wednesday.

China's Evergrande developments will also remain in focus with more bond payments due this Wednesday. Chinese September PMIs are released on Thursday, and we expect a further decline given the weakening consumption and headwinds in the construction sector.

On Friday, we'll also get inflation figures both from the US and Euro Area, and we expect to see EA September Flash inflation rising while US August PCE inflation likely slowed down slightly.      

The 60 second overview

German election: With the Angela Merkel era drawing to an end, German politics have entered unchartered territory with a possible change in government. As the largest party in the Bundestag with 25.7% of the votes, the Social Democrats' (SPD) candidate Olaf Scholz has the best chances to succeed Angela Merkel in our view, but his fortunes will depend on coalition negotiations. We expect parties to start parallel talks on a 'traffic light' (60% probability) and 'Jamaica' (40% probability) coalition in the coming days. Both outcomes would be positive from an economic perspective in our view, due to an increased focus on public and climate investments and we expect any future government to maintain a strongly pro-European stance. That said, with parties views on economic and fiscal policies diverging, difficult and lengthy coalition negotiations lie ahead that could drag into early 2022.

Market reaction on the election result was muted, also because a pure left-wing coalition of the SPD, Greens and the Left, which held the biggest potential for a fiscal regime shift, failed to gain a majority. Read more in German Politics Monitor - Let the game of thrones begin!, 27 September.

Markets: After a very eventful last week with many central bank announcements and ongoing focus on Evergrande in China markets are likely to increasingly focus on the risk of stagflation. Commodity prices are back on the rise and Bloomberg's aggregate commodity index is now close to index 100 - the highest level since 2015. At the same time we see clear signs of a slowdown in global manufacturing, many central banks are moving in a tightening-direction and with bottlenecks limiting the supply of labour in many countries the risk of "stagflation" has risen. For more on stagflation risks and the potential market impacts please see Research Global - Stagflation risks on the rise, 15 September, and Global Research - Market implications in a global stagflation scenario, 21 September.

Energy prices: While market focus in recent weeks primarily has been on European gas and electricity prices we are likely to see increased focus on the oil market. Brent crude has risen to levels just shy of USD 80/bbl which is the highest level in almost three years. The primary drivers are a combination of bottlenecks, spill-over from other energy markets and the global recovery. As long as we do not see broad based USD weakness - which is not our base case - we still think prices are capped from a faster output normalisation from OPEC+.

Equities: Stocks ended the week broadly unchanged but with huge sector and regional differences both on Friday and through the week. Lots of mowing parts but the fact that yields took a big jump higher on the back a busy central bank week gave renewed tailwind for value companies. US equities on Friday mostly higher with Dow +0.1%, S&P500 +0.2%, Nasdaq -0.03% and Russell 2000 -0.5%. Volatility came back down after the spike Monday and the Evergrande fear diminishing. The VIX index ("index of fear") ended the week at 18 after being close to 30 on Monday. This morning we see mixed markets in Asia while US and European futures suggest a positive opening.

FI: European bond markets were under pressure again on Friday, extending the sell-off from Thursday. 10y German bunds briefly touched -0.22%, before ending at -0.23%. Peripheral spreads were further tested with BTPs-Bund spreads widening to just above 100bp again, on the general soft risk sentiment prevailing in markets.

FX: There has been no market reaction to the German election in FX markets. EUR/USD trades just north of 1.17 - essentially unchanged levels compared to one week ago. EUR/NOK and EUR/SEK have moved lower over the last week with EUR/NOK breaking below 10.05 and EUR/SEK breaking below 10.15. Oil exporting currencies are generally trading higher this morning following the rise in oil.

Credit: Credit markets were downbeat on Friday where iTraxx Xover widened 3bp and Main 0.5bp. Cash bonds were more firm with HY widening 2bp and IG closing unchanged.