Euro and stocks slip as investors fear instability after German election

The euro and European government bond yields slipped after the EU’s most powerful leader, German Chancellor Angela Merkel, won a fourth term but faced a fractured parliament as support for the far right surged.

Euro and stocks slip as investors fear instability after German election

Investors were unnerved by the prospect of months of coalition talks that could distract from negotiations with Britain over its divorce from the EU and efforts to integrate the bloc’s remaining members.

Some analysts said the political uncertainty may also throw into question ECB plans to reduce monetary stimulus, a move likely to be announced at the ECB’s next meeting on October 26.

“There might be some concerns at the ECB that a less stable and less pro-EU German government will have negative implications for the (economic) outlook.

"That would be dovish,” said Frederik Ducrozet, an economist at Pictet Wealth Management.

Business confidence in Germany deteriorated unexpectedly in September, a survey also showed, and the chief economist of the Ifo economic institute said the election result could stoke further uncertainty.

A decline in the euro accelerated after the data, and at one stage it was down 0.6% at $1.1885.

That put more distance between a two-and-a-half-year high of $1.2092 reached earlier this month, when the last ECB meeting fuelled expectations the central bank would begin tapering its massive stimulus programme.

Europe’s benchmark German bond yield was set for its biggest daily fall in seven weeks, down 5 basis points at 0.40%.

The fall was less pronounced in Southern European bond yields as the election result led to concerns about the emergence of a more hardline stance toward the eurozone in the bloc’s largest economy.

While Ms Merkel held on to power, the surprise winners were the anti-immigration Alternative for Germany (AfD), which became the first far-right party to enter the country’s parliament in more than half a century.

All parties have ruled out a coalition with the AfD but investors are unsettled by the possibility Ms Merkel may have to form a coalition with the Free Democrats, who are seen more opposed to deeper financial integration in the eurozone and might take a more hardline stance on Greece’s debt.

“This suggests headwinds to the euro and periphery,” analysts at Morgan Stanley said in a note.

The impact on stock markets was less marked, with eurozone shares down slightly.

But some investors predict that German stock may in time rise.

Elections in France and Germany were flagged among the key risks for investors, and with Ms Merkel back at the helm of Europe’s largest economy the path is now clear for bullish investors.

Money managers from Franklin Templeton to Credit Suisse Group said the weekend’s vote in her favour, albeit in conjunction with the rising popularity of the right wing, boosts their optimism for German equities longer term.

Valuations on the Dax index remain cheap relative to MSCI’s global index of stocks which, together with forecasts for faster earnings growth than the global average, provides a foundation for gains.

“With the German, French and Dutch elections now complete, the political risk from eurosceptic parties — one of the main concerns of 2017 — is now largely alleviated,” said Peter Wilmshurst, who runs a global equities fund at Franklin Templeton.

Capital Economics in London said there were reasons markets were little perturbed by the vote outcome.

“Although the CDU fared a little worse than opinion polls had suggested, it was never expected to garner enough votes to govern without the support of others.

"Polls had also indicated that the right-wing AfD would win its first seats.

“Notwithstanding AfD’s rise, the result is unlikely to mark a major shift in economic policy in Germany,” it said.

Additional reporting by Reuters and Bloomberg.

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