Updated: 04-24-2017

French Election Likely to Spur Bund Selling
Updated: 21-Apr-17  04:09PM ET
Analyst: David Kelland

I'm not an expert on French politics, but markets are understandably sensitive to anti-globalization votes after the events of 2016 and might be overpricing the probability of a victory for Marine Le Pen. Of course, this Sunday's vote is only the first round, but all three of the other major candidates are polling ahead of Le Pen in hypothetical run-off rounds of voting. Were Emmanuel Macron, the centrist candidate, to make it to the second round, German sovereign debt yields would likely jump. He polls the best in the hypothetical run-offs against Le Pen.

The German 10-year bund found support at its 200-day moving average (currently 0.17%) this week, so the technicals are lining up too. Further upside in yields would be possible if Macron made the second round. Given very solid PMI data out on Friday and generally improving growth over the past few months, the elimination of the 'Frexit' threat would be an all-clear signal for the eurozone recovery. There would be every reason on Earth to sell German debt. A variety of officials including ECB Chief Economist Peter Praet have publicly attested this week to improving growth in Europe.

U.S. Treasury yields have, like bunds yields, come down a lot since their March highs with the 10-year Treasury yield down 38 basis points since March 14. The U.S. economic data this week was disappointing. Housing starts and manufacturing production both declined in March although housing starts remain near a post-crisis high. These disappointing reports followed weak retail sales data for March that was released last week. Survey data like the Empire Manufacturing Index, Philly Fed Survey, and the Markit PMIs also pulled back from their post-election jumps. Low volatility in U.S. equity markets is also concerning. The longer it prevails, the more violent the end will be.

On the other hand, a lot of the bearish positioning in Treasury futures by large speculators has been unwound, particularly in the front end and belly of the yield curve. The charts are improving a little too. While yields for the 5-, 10-, and 30-year Treasuries have not retraced the full 38.2% of their July-December 2016 ascents, as I would have expected after the break of the 23.6% level, they have reached some sketchy uptrends and stocks have had difficulty selling off this week. (charts below)

So maybe Treasury yields could go higher, obviously dependent on the French election ultimately giving a victory to somebody other than Marine Le Pen.

Furthermore, Fed Vice Chair Fischer said on Friday that two more rate hikes in 2017 seems appropriate. On Thursday, Dallas Fed President Robert Kaplan (FOMC voter) said that three total rate hikes in 2017 remains a good baseline scenario. So it doesn't look like the Fed has shifted its expectations for fed funds despite some disappointing economic data. There could be some upside for yields here. The big risk to that outlook is renewed selling pressure in stocks.

  • 5-Year Treasury Yield (Daily)

  • 10-Year Treasury Yield (Daily):

 

- David Kelland, Briefing.com

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