French elections – Macron “en marche”, but not over yet.
The first round of French Presidential elections leads to a result not too far from the polls but leaves the field quite open for the second round. Macron led Marine Le Pen by a 4-pp gap (27% to 23%), narrower than polls were suggesting until a week ago but not too different from the ones out last week. The two will thus participate in the runoff on April 24th. Mélenchon surprised with a solid 22%, just a point below Le Pen. Most of the minor candidates have already endorsed Macron for the second round, except Mélenchon which suggested not to vote for Le Pen without directly endorsing the incumbent. Overall, Mélenchon votes seem the key for the second round. He has been running on a left but socially focused platform, so that it is not clear if his electorate will remain on the left (Macron) or stick to social issues (Le Pen). According to our internal model, the probability of a Macron victory fell from 90% one week ago to roughly 76% currently, as 2nd round polls narrowed somewhat in favour of Le Pen.
In terms of policy, Le Pen has re-focused content from a no-Europe, no-immigration to a more bottom-up, fiscal oriented approach. Her elections would still be aIn terms of policy, Le Pen has re-focused content from a no-Europe, no-immigration to a more bottom-up, fiscal oriented approach. Her elections would still be a shock for markets, as fiscal discipline will be more important in a context of higher rates, plus she would generally be considered unreliable on the European side given her track record. Moreover, a stepdown of Macron would create large uncertainty over European leadership, given the recent changeover in Germany and Italian elections in 2023, where the right seems comfortably ahead. Markets seem quite comfortable with the current polls, with periphery spread resilient in the context of global risk and European equities having grinded back to pre-war levels. Though unlikely, a Le Pen victory is far from impossible and remains a key tail risk for markets over the next month.
Central banks minutes – Full steam ahead.
Fed and ECB minutes, out last week, continue to point to more tightening. The Fed has used the minutes to communicate the start of its balance sheet runoff, which will start in May with a reduction of $95bn per month. This pace will shrink the Fed balance sheet by 50% over the next three years, to c.$6tn. The ECB minutes suggested some commitment to conclude the APP program in summer. Still, they referred to the March 9th meeting, before it was clear that the war would have lasted so long. The policy meeting of Thursday will thus be more informative about potential policy actions over the next few months. We think the ECB will try to sound hawkish, as EZ inflation for March suggest some 1% upside to the latest set of forecasts. Still, a technical recession in 3Q is now a clear possibility, so the guidance will need to be vague enough to leave the possibility open for a slower reduction of purchases and a later rate hike. Rates markets continue to grind higher, but US Treasuries and Bunds up, respectively, 35bp and 25bp in April only. Some local peak in inflation is possible over the next few months, but real rates remain negative in most developed markets, with 2023 inflation expectations well below both surveys and spot levels. We think we will stay in a bear market for rates for most of this year, with the long end of curves remaining the next shoe to drop.
Algebris Investments’ Global Credit Team
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