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Rates comment: This time the relief should last longer than just a few hours

  • Jan von GerichThe austerity-supportive New Democracy wins in Greek elections – a quick formation of government looks likely
  • Greek election results likely to boost risk sentiment, but do not expect any huge rally, as the outlook remains clouded
  • French elections give Hollande relatively free hands to implement his programme
  • Weak Euro-zone data set to continue this week, while the Fed is set to extend its Operation Twist
  • Spanish bond auctions on Thursday the main focus on the issuance front

Bond yields fell on both sides of the Atlantic on Friday ahead of the important Greek elections, as weak US economic data and hopes of easier central bank policy offered support. Nevertheless, equities performed at the same time, while Spanish and especially Italian bond yields fell. However, that is all in the history, and it is much more interesting, what will happen going forward.

The Greek elections produced and outcome roughly as good as one could hope for based on the polls. New Democracy, with close to 30% of the vote vs. just under 27% for the anti-austerity Syriza, it set to take 129 seats in the 300-seat Parliament. Together with Pasok and the Democratic Left, the number of seats would rise to 179, a comfortable majority, though the share of the votes going to these parties would still be only around 48% of the votes cast. A three-party coalition between New Democracy, Pasok and the Democratic Left looks probable, but even a government of New Democracy and Pasok would have a relatively comfortable majority. A new government could be formed as early as today, while negotiations about the terms of the Greek economic adjustment programme would follow. The terms of the programme will likely be eased to a limited extent, but more notable concessions are unlikely to be on the table.

Greece’s problems are far from resolved, and as the economy continues to perform poorly, approving new austerity measures will not be easy. Still, yesterday’s election results should put the immediate risk of a collapse in the Greek economy and its exit from the Euro-zone off the table for now. This should lead to some relief on markets, as has been seen in Asian trading overnight already, with the US 10-year Treasury yield jumping by 5-7bp, the euro strengthening and Japanese equity indices up by around 2%.

That said, even if the relief should last longer this time than what we saw after the Spanish bailout a week ago, one should not expect any major risk rallies or bond sell-offs. We already saw notable corrections in markets ahead of the elections, and comparing to the levels prevailing just before the first Greek Parliamentary elections on 6 May, e.g. the German 10-year yield is less than 15bp lower, while the Eurotop 100 equity index is only some 3% lower. In addition, several headwinds remain: the US economic data has begun to soften lately, confidence has not been brought back to Spain, the weakening Italian economy will likely receive added focus again and the Euro-zone economy as a whole is also still performing quite poorly, just to name a few. The stakes thus remain high ahead of the EU summit on 28-29 June.

The French President Hollande’s Socialist government secured an outright majority in yesterday’s French Parliamentary elections. The Socialist Party and its allies were set to take 314 of the 577 seats in the lower house of the French parliament. As the Socialist-led coalition already controls the upper house of the parliament, Hollande will now have relatively free hands to implement his programme. The strong election results will also support his positions in Euro-zone negotiations.

Although at least the early part of this week will most likely be spent digesting the Greek election results, looking beyond that there are quite a few interesting entries in the calendar. The Fed may stick to an extension of its so called Operation Twist at the conclusion of its meeting on Wednesday. The G20 countries, in turn, will have a chance to ponder the Euro-zone debt crisis today and tomorrow. At the very least, the countries should be able to seal the increase in the IMF’s resources. In any case, prepare for a lot of uncertainty and volatility again, as sentiment swings may be notable.

Flash June PMIs for the Euro-zone on Thursday will be of utmost importance, as another drop would further darken the economic outlook of the zone and likely cement further easing measures from the ECB. There is no denying the fact that the Euro-zone economy faces very tough times ahead, and the PMIs will probably offer further evidence that in the short term, the Euro-zone economy will contract. Weak economic performance, in turn, will only add to worries that current debt levels are not sustainable in a number of countries.

On the issuance front, most focus will centre on the Spanish bonds auctions on Thursday, while the country will sell bills already on Tuesday. Also Greece is set to sell bills on Tuesday, while Germany will re-open its 2-year benchmark on Wednesday and France will sell 2-5-year bonds and linkers on Thursday.

Jan von Gerich's research

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