GLOBAL CREDIT BULLETS | Monday, 27th September 2021

German elections – Too close to call
SPD won German elections with 25.7%, in line with polls and 5 %-points better than in 2017. Despite a last-minute push, CDU achieved a historically poor result and only came in second, with 24.1%. The Greens improved by 6 %-points versus last elections to 14.8%, but disappointed versus polls and their aspirations. With 11.5%, the liberal FDP achieved their second double-digit result in a row. In now 5 mathematically possible coalitions, SPD’s Olaf Scholz would be the Chancellor in 4 of them, most importantly in the traffic light coalition of SPD, Greens and FDP. Only the Jamaica scenario (CDU/CSU, Greens, FDP) would see CDU’s Armin Laschet head the government. 3 coalitions feature CDU/CSU and SPD (Grand coalition, Kenia and Germany) but currently look off the table, as both parties ruled that out for another term. In light of the Left’s weak result of 4.9%, a left-wing Red-Green-Red coalition is no longer possible.

In German TV yesterday evening, Greens and FDP were quick to announce they’d sit down first to discuss which three-way coalition with either CDU/CSU or SPD they prefer – whereby especially FDP will be the kingmaker as they will feature in every coalition (despite in the very unlikely sole CDU/CSU and SPD one). Naturally, the liberal FDP prefers the CDU/CSU and has been vocal to call for Jamaica, while left-wing Greens prefer the SPD. Key issues for any constellation of FDP and Greens remain the debt-break and tax policy – topics where the two fundamentally oppose and something must give. Given the involvement of the FDP in a coalition, fiscal policy is likely to stay conservative going forward.

Coalition talks are aimed to be completed before Christmas, to allow for smooth 2023 budget draft negotiations in early 2022 – but as seen in 2017/18 coalition negotiations can well take several months.

Inflation – central banks taking notice?
Inflation data continue to be strong and some central banks are taking notice. Last week, US CPI inflation registered the fourth print above 5%. PMI and ISM surveys remain strong, especially on paid prices items. Supply bottlenecks remain strong, with gas storage issues (mostly in UK) adding to the global component shortage. In this environment, some central banks are twisting their stance. At the FMOC meeting on Wednesday, the Fed twisted its guidance hawkishly, bringing forward one hike to 2022 and giving clear hints of tapering starting in 2022. The Bank of England followed suit on Thursday, with a swift upward revision of inflation forecasts and the door now open for a 2021 hike (potentially before tapering). Norges hiked 25bp this week. In emerging markets, central banks maintain a proactive stance in lieu of rising prices. In Brazil, the BCB hiked 100bp on Wednesday. In Indonesia, the BI held turning to hawkish guidance. In Czech Republic, the CNB guided for a faster hiking cycle. The only exception remains Turkey, where the CBT started easing this week despite rising inflation. Overall and as we discussed in May, inflation is proving less transitory than expected, so that central banks are forced into tightening. US Treasury have widened 10bp over the week (despite the volatility in China), and inflation breakevens are on the rise. On inflation, central banks are gradually converging to consumers expectations. We continue to think a moment of reckon in the markets may come soon.

Evergrande – Bad but no Lehman
This week was marked by the Evergrande fallout and concerns regarding potential contagion. Parallel with the Lehman fallout are exaggerated, in our view. Global banks do not have direct exposure to the company, and the large funds that hold it do so in well diversified portfolios. Even the Chinese banking system has an overall limited exposure. Risks of an economic fallout are larger, as property represents 15% of China’s GDP. A Chinese contraction would hurt commodities and emerging markets, ultimately dragging down the economic recovery. Chinese authorities, though, have large fiscal and monetary space to support the economy, and a strong interest not to let it go. The RRR cut in summer and liquidity injections in recent days suggest the support to the economy will be prompt and large. As such, the collapse won’t trigger global financial stress and even the economic consequence may be tempered. Markets opened the week weaker on Monday, but the equity and credit correction was shallow and short-lived. Valuations in global markets remain largely unattractive, with equity multiples 30% above long-term averages and credit spread at 5y lows. We maintain a cautious attitude on markets in the next few months as high prices, upcoming tapering and China volatility form a potentially risky combination.