• European equities opened with losses following the collapse of German coalition talks, but managed to recover initial weakness to trade currently up to 0.5% higher. US stock markets started with marginal gains.
  • Germany’s President Steinmeier urged the country’s political parties to return to the negotiating table and avoid the need for new elections. SPD-leader Schulz said new elections would be right following the collapse of the four-way coalition talks.
  • The German economy is powering into the end of the year thanks to strong industrial activity and firms are increasingly struggling to find workers to satisfy orders, the country’s central bank said.
  • Italy’s anti-establishment 5-Star Movement pummelled a centre-right coalition to govern Ostia, one of Rome’s largest neighbourhoods, in a run-off vote that confirms the 5-Star’s strength months away from a national election.
  • EU chief Brexit negotiator Barnier told the UK to come up with a solution for the Irish border, making clear that an improved offer on the divorce bill might not be enough to unblock talks.
  • There is a 50% chance the Czech central bank will raise interest rates again in December after hikes in August and November, though it is in no rush to tighten policy, the bank’s Governor Jiri Rusnok said. Rusnok said any move would likely be by 25 bps, the same as the last hike on Nov. 2 which brought the main repo rate to 0.5%.


Core bonds shrug off German political crisis

In a data-poor opening session of the week, core bonds (and other markets) shrugged off the German political crisis triggered by the collapse of the coalition negotiations. In the afternoon, the German president urged parties to find a deal to avoid a new vote, as he is unprepared to call early elections. He will hold talks with the party leaders. Caretaker chancellor Merkel promised to do whatever it takes to give Germany a working government. It only affected markets very temporarily. The Dax opened weak, testing key support, but no break occurred, leading to short covering and modest daily gains.

The Bund opened higher (163.08), equities and the euro substantially lower, but the tide turned immediately. The Bund dropped to around Friday’s closing level (162.87) where the selling dried up and the Bund started to move sideways. An attempt to rally again higher in early afternoon failed and by the time of closing our report the Bund trades again near Friday’s closing levels. Similarly, the US T-Note moved higher in Asian trading before easing slightly during the European session. In early US dealing, US traders sold Treasuries, pushing them to modest losses.

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At the time of writing, the US yield curve steepens slightly in bearish fashion with yields 1.3 bps (2-yr) to 2 bps (10-30-yr) higher. German yield changes varied between +0.5 bps (5-yr) and -0.5 bps (30-yr). On intra-EMU bond markets, 10-yr yield spread changes versus Germany ranged between -1 bp and +1 bp with Greece slightly underperforming (+4 bps).


Impact of German crisis on the euro is short-lived

Trading in the major FX cross rates was confined to tight ranges today except for a temporary decline of the euro this morning due to the political stalemate in Germany. EUR/USD touched an intraday low in the 1.1725 area, but already returned to the 1.18 area early in Europe as global markets didn’t draw any firm conclusions from German developments. Later in the session, the dollar gained a few ticks in technical trade. EUR/USD trades in the 1.1770 area. USD/JPY is changing hands in the 112.25 area.

Overnight, Asian markets opened in risk-off modus. Both regional and global themes were in play. Asian investors also pondered the potential impact of the collapse of the German coalition talks. EUR/USD dropped from the 1.18 area to the 1.1725 area. The pair traded slightly off the intraday lows at the start of the European trading session. USD/JPY suffered no substantial loss and hovered in the 112 area.

The German Bund contract jumped higher at the open, but European markets soon found their composure. Core bond yields rebounded. EUR/USD reversed the Asian losses as soon as it became clear that the German political uncertainty wouldn’t cause a meaningful sell-off on European equities. EUR/USD returned to the 1.18 area. At noon, European equities even traded with marginal gains, but it had no big impact on FX trading anymore. EUR/USD settled closed to, but slightly below, 1.18. USD/JPY held an extremely tight sideways range in the low 112 big figure.

Early in the afternoon, the German President urged the parties in the coalition negotiations to find a deal to avoid a new vote. There was little impact on the euro. In technical trading, the dollar captured a cautiously positive bid. EUR/USD trades in the 1.1775 area. USD/JPY hovers around 112.25. Constrictive risk sentiment apparently puts a floor for the dollar. At the same time, German politics had no negative impact on the euro, but evidently, it is also no help.

Conflicting Brexit headlines block further GBP-gains

German political uncertainty weighed on the euro overnight, including on EUR/GBP. At the same time, UK policy makers indicated they might make further concessions on the amount of the UK Brexit Bill. EUR/GBP touched an intraday low in the 0.8875 area at the start of the European trading session. However, both stories again didn’t last long enough to cause a protracted EUR/GBP trend-move. The euro soon reversed the Asian losses. The impact on EUR/GBP was initially limited as cable stayed well bid, hoping on positive Brexit news. Sterling sentiment eased later on, as EU’s Barnier spoke tough on the conditions that need to be fulfilled to start trade negotiations. Aside from the financial bill, he stressed that the UK also needs to bring a workable solution for the Irish boarder. Cable drifted gradually off the intraday highs, pushing EUR/GBP back up to the 0.89 area (currently 0.8890). Cable trades currently in the 1.3245 area. Sterling eased off the intraday highs against the euro and the dollar. That said, underlying sentiment on the UK currency doesn’t look too bad. Sterling stays away from the recent lows against euro and the dollar.


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