May 25, 2018 / 5:22 PM / 24 days ago

Take Five - World markets themes for the week ahead

LONDON (Reuters) - Following are five big themes likely to dominate thinking of investors and traders in the coming week and the Reuters stories related to them.

Traders work on the floor of the New York Stock Exchange (NYSE) in New York, U.S. May 22, 2018. REUTERS/Brendan Mcdermid

1/ELECTIONS AGAIN!

It was all set for Italy’s new government to take over, but President Sergio Mattarella had other ideas. This weekend, he blocked the nomination for economy minister of Paolo Savona, a former banker who has called Italy’s euro membership a “historic error”.

That in turn led to the collapse of the potential coalition government comprising anti-establishment parties 5-Star and the far-right League, prompting a brief relief rally.

Then investors realised a fresh election would probably result in a strengthened mandate for both parties. And already one 5-Star source has hinted the parties could have a coalition agreement ahead of the vote.

Italy’s bond and stock markets did not take this well. Italian banks shed 3 percent on the day and Italian 2-year yields hit multi-year highs. Further rises in Italian yields risk spilling into other euro zone states, too. A no-confidence motion mooted against Spanish Prime Minister Mariano Rajoy isn’t helping in that respect.

One bit of support may come from Thursday’s May flash euro zone inflation data. If that remains subdued, it will cast more doubt over the ECB’s plans to end its bond buying programme by year-end. That would mean bond investors could count on that powerful central bank backstop remaining in place for some time.

Italian bonds, stocks reverse gains as sentiment turns

Italian president puts nation on path to fresh elections

Italy’s 5-Star considers election alliance with League - source

(Graphic: Growing political risks rattle Italian bonds, reut.rs/2KP4Uvq)

2/THE BONDS ARE BACK IN TOWN

Bond bears have had a pretty good run of it recently, but not in the past week. The fall in yields, most notably the 10-year Treasury yield’s slide back below 3 percent, chips away at the narrative that growth and inflation are strong enough to warrant tighter monetary policy across the developed world.

The fall in benchmark 10-year yields this past week was remarkable: UK gilts -13 bps, the biggest weekly fall in a year; U.S. Treasuries -10 bps, the biggest fall in over a year; German Bunds -14 bps, the biggest fall in over two years.

Analysts at HSBC are turning more bullish on government bonds, especially gilts, given their view that UK inflation is headed back below 2 percent. Bank of England Governor Mark Carney this week warned a hard Brexit might prevent the Bank from raising rates, while the latest Fed minutes were surprisingly dovish. Political and trade concerns are rising again, too, and there’s still a near-record short spec position in U.S. bonds.

Could the bears be in retreat for a bit longer yet?

INSTANT VIEW 3-Minutes from Federal Reserve’s May FOMC meeting

U.S. Treasury yields fall on North Korea concerns

Italy’s bond yield gap with Germany hits 200 bps as sentiment sours

(Graphic: US 10y yield - weekly change, reut.rs/2Lsplzy)

3/MODI-FIED OUTLOOK

Asia’s worst-performing currency, the rupee, is once again staring at ghosts of past emerging market tantrums and, despite all the talk of the Indian economy being in better shape than it was in 2013, ugly twin-deficit heads are rearing up again.

The rupee is down more than 6 percent against the dollar this year, hit by the same issues as emerging markets Argentina and Turkey - jitters around Fed policy tightening and $80 oil. Indian borrowing costs are on the rise and portfolio investors are moving out of stocks and bonds.

While the Reserve Bank of India might be reluctant to raise interest rates as its main currency defence mechanism, as it did during 2013, coming weeks will show how far it can go spending dollar reserves to stop the rupee heading for 70 per dollar.

The risk is that the balance of payments might go into deficit, should capital flows turn negative at the same time as Prime Minister Narendra Modi’s government throws fiscal caution to the winds before elections next year. After a surprise defeat in a regional election this month, Modi is under pressure to prevent higher fuel prices from hitting voters’ pockets.

India’s Modi faces revived opposition after setback in southern state –

Suspected Indian central bank interventions stems rupee’s fall –

Slower growth, higher prices or more subsidies: Asia’s oil-related trilemma –

(Graphic: India's rupee feels the heat, reut.rs/2GNHaWj)

4/ LONG-TERM PROBLEM

The next snapshot of the U.S. jobs market due next Friday is likely to show more hiring in May. Unemployment is expected to reach 3.9 percent, matching the near 18-year low hit in April. But those numbers gloss over some darker patches.

Parts of the labour market are still struggling to recover from the Great Recession, which ended nine years ago. Among the most striking is the plight of the long-term unemployed.

The number of Americans out of work for half a year or longer is around the lowest in 11 years, but as a proportion of the unemployed it is unusually large. In April, one in five unemployed Americans had lost their job at least half a year earlier. While that is down from a record 45 percent eight years ago, it is well above the long-term average and tops even the highest percentages seen in several past recessions.

U.S. job growth picks up, unemployment rate falls to 3.9 percent

INSTANT VIEW 4 -U.S. April payrolls up less than expected

(Graphic: Long-term unemployment in the United States, reut.rs/2LqBxRn)

5/BREXIT BUNFIGHTS

Britain’s difficulties in establishing political consensus for its approach to Brexit appear to be coming to a head again just as the economy and sterling are showing strains.

Its politicians may be having their half-term break from parliament, but behind the scenes it will be all hands on deck as they try and work out how long they want to stay in the EU’s customs union.

The issue of avoiding checkpoints on the Northern Ireland border with euro zone member Ireland still looks close to intractable. Matters could come to a head with an EU withdrawal bill debate due in mid-June, potentially leading to another messy election.

Add to that a flurry of UK data, including forward-looking PMIs that give one of the best health checks of the economy, and it might be frazzled sterling traders rather than the Westminster set that need the time off.

Sterling stuck near 2018 low on Brexit uncertainty, stagnant growth

EU dismisses latest British ideas on Ireland after Brexit

UK set for parliamentary showdown on Brexit law “in weeks”

(Graphic: Sterling stumble boosts FTSE 100, reut.rs/2J0Ye0j)

Reporting by Dan Burns in New York; Vidya Ranganathan in Singapore; Dhara Ranasinghe, Jamie McGeever, Sujata Rao and Marc Jones in London; editing by John Stonestreet, Larry King

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