France elections – Tail risks removed.
The second round of French Presidential elections ended with a comfortable win by Macron. The incumbent President took 58% of the votes, in line with what polls predicted ahead of the weekend. The result is not as solid as in 2017, but the margin comfortable enough for a strong political mandate, plus the gap suggests legislative elections in June may go in a similar direction. Markets priced out worries over the past two weeks thanks to strong polls in favour of Macron, hence the result will not trigger immediate market action. Still, an immediate tail risk is removed from markets, and vulnerabilities on European cohesion removed ahead of a key twelve months for decision-making on the Russian front and European governments dealing with the end of ECB QE.
China – A wall of worries.
Market tension remains high on increased risks from zero covid policy. As lockdown policies are unchanged since 2021, more than 40 Chinese cities were locked down last month, including Shanghai. The impact was clear in March high frequency data, which shows a deep contraction in retail sales and new investments. Over weekend, the discussion has moved toward potentially locking down Beijing. Policymakers steps to support the economy remain shy, as little credit and monetary easing is being provided to offset the slowdown. The 5.5% target set by authorities for 2022 growth is clearly at risk, and 4-4.5% is a more plausible range shall March trend continue in 2Q. Chinese equities are back under pressure, but most room for weakness is probably on the currency side, which has started moving but weakened 10% in previous sudden slowdowns. EM FX also remains vulnerable given its outperformance vs credit ytd.
Bank of Japan – The perfect storm.
Continued pressure on the JPY puts the BoJ and their yield-curve control on the spot for Thursday’s policy meeting. USDJPY reached 129.4 last week, the weakest level since 2002, and the bank purchased more JGB’s via fixed-rate operations to defend the 0.25% tolerance band against growing pressure from the global hiking cycle. In addition, forecasts see Japanese core inflation rising above 2% by summer as mobile phone discounts from 2021 roll off. Governor Kuroda argues that imported, cost-push inflation cannot be fought with higher rates, but concerns are growing each day the Yen weakens. FX interventions by the Ministry of Finance are difficult, as manipulating the currency means sell USD and US treasuries versus Yen into the Fed hiking cycle, and will be disliked by global policymakers. Hence monetary policy will be the tool of choice for Japan to react: At this meeting the BoJ may change their forward-guidance to remove ultra-dovish language. Although not consensus, changes to the tolerance band towards +/-50bps are possible too, which would likely see JGB 10Y yields rising to 0.4-0.5% as an immediate response. For the year, we expect the BoJ to become gradually more hawkish by widening the band, adjusting yield curve control or even exit negative interest rate policy.
Algebris Investments’ Global Credit Team
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