Political risks yet to dent enthusiasm for risk

Political risks yet to dent enthusiasm for risk

By Kathleen Brooks, research director at XTB

• Anglo American set to announce deal with Canadian rival
• European stocks not fazed by French political turmoil
• Fed rate cuts trump concerns about politics
• US NFP revisions in focus

Anglo set to become purchaser, as it fights off takeover bids

There is some merger news for the FTSE 100 this morning. Anglo American, itself a takeover target in recent years, is set to acquire Teck Resources, a Canadian firm. The purchase could be completed later this week, and although it has not been confirmed, Teck’s share price surged 20% on the news.

If this deal is completed it will mark the largest mining deal in recent years. This news could also be good for Anglo’s share price in the short term. It would give the company more firepower to fight off a takeover from a larger rival like BHP. There has also been concern about miners overpaying for acquisitions, however, Teck’s shares had fallen this year, so Anglo could dodge that criticism.

There could be efficiencies between the two companies that may also boost investor enthusiasm towards the deal. Anglo’s shares will be in focus this morning, and we expect the UK index to dominate the headlines. The FTSE 100 is set to open slightly higher later this morning, and all eyes will be on the mining sector.

Political risks fail to move the dial for risk

There was no shortage of drama at the start of September. Firstly, the weak US payrolls number, then a double whammy of political turmoil on Monday with both France and Japan losing their Prime Ministers. However, none of this has spooked financial markets.

Usually concerns about a US economic slowdown and mounting political risks trigger big moves out of risky assets and into safe havens. However, not this time. US stocks are close to record highs; the Nasdaq composite index reached a fresh record high on Monday. US stocks were led higher by the tech sector with Uber, IBM and Broadcom all rising more than 3% on Monday and in the top 10 of the S&P 500.

French stocks: the bad news is already priced in

European stocks were also unperturbed by French political turmoil. The Cac 40 rose by 0.78%. The Cac has underperformed its European and US peers so far this year, and is higher by only 4.8%, compared to a 19% increase in the Dax and a 9.5% increase in the Eurostoxx 50 index. This suggests that a lot of the bad news is already priced into the French index, and it may take a serious deterioration in the situation from here to spook the French stock market. European stocks are poised to open slightly lower later today, but there is still no sense of panic in financial markets.

Although France has seen its third change in government in a year, and the country cannot agree on a Budget package of spending cuts, French banks are the top performers in the Cac 40 this year. Credit Agricole and Societe Generale both managed to rise by more  than 1% on Monday, even as the Prime Minister Bayrou was set to lose a confidence vote in the French parliament.

No new elections in France

Now that the vote has been lost, the focus will shift to what will happen next. President Macron is expected to appoint a new PM in the coming days, the fifth in less than 2 years, to tackle the country’s debt problems. The issue is that President Macron is running out of candidates to be PM, which is why there is a growing call from his political rivals to call new legislative elections.

It looks like Macron will resist such calls now, and a new PM will be elected. The market will be looking to see if a new government can make some progress on government cuts, potentially by ringfencing public holidays and adding more taxes for the wealthiest citizens. Either way, France has Europe’s widest budget deficit, and Bayrou’s successor is still left with a growing pile of debt to sort out. Bloomberg analysis shows that if France cannot make the necessary cuts, then French national debt could rise by 10% in the next 5 years to 125% of GDP.

French govern debt unfazed by political turmoil

French government debt is the worst performer in the 10-year category and is the second worst performer in Europe and the US in the 30-year category this year. Germany has seen the largest increase in its 30-year yield, however, that is due to welcomed increase in government spending. French yields, in contrast, have risen for unwelcomed reasons and French long term bond yields have risen twice as fast as UK yields.

French yields get boost from Fed

Thus, Monday’s price action could be puzzling for investors: French yields followed global yields lower, and the 10-year yield fell by 4 bps. Global bond markets have been moving in unison in recent weeks, as the market is focused on potential Federal Reserve interest rate cuts. The French bond market is getting a boost from the Fed, which is masking some of the political carnage at home.  Obviously if sentiment towards Fed rate cuts changes, then it could leave bonds, especially French bonds, vulnerable.

A big driver of stock markets at the start of this week has been rising expectations of Fed rate cuts. The market increased its expectations of a 50bp rate cut at next week’s meeting, and there are now 150bps of cuts priced in between now and the end of Jerome Powell’s term in May 2026. Thus, it may be hard for President Trump to criticize the Fed chair, in the past he has openly called on Powell to cut rates and accused him of being too late on adjusting monetary policy lower.

CPI risks could rattle markets

Of course, one of the key risks for markets will be this week’s CPI report. The interest rate futures market could do a 180-degree shift if inflation runs hotter than expected. In recent weeks, the markets have determined that the weakening employment outlook is more important than inflation. However, a nasty upside surprise could weigh heavily on stocks.

Fed rate cuts are the biggest driving force in financial markets right now. It is causing the gold price to surge; it rose by another $50 on Monday and hit a fresh record high at  $3,635, the gold price is rising again on Tuesday. Gold is also benefitting from weakness in the dollar, which is not acting like a safe haven. It was the second weakest currency in the G10 FX space on Monday, and is weaker again on Tuesday. The dollar index looks like it is breaking to the downside of its recent range, which opens the door to the lows from early July, just above 96.00.

Will the euro strength continue?

The euro has remained resilient to political turmoil in France and we expect this to continue, as the single currency gains from the dollar’s demise. It also has a yield advantage at the moment, as the spread between US 10-year yields and German 10-year yields falls close to its lowest levels since 2023, as you can see in the chart below.

Chart 1: US and German 10-year yield spread. The spread has narrowed sharply as more and more Fed rate cuts get priced in by the interest rate futures market.

Source: XTB and Bloomberg

There are some concerns that the FX market is not pricing in the risks in the currency bloc: for example, the weakness in the German economy and the French political turmoil. The euro could also come under pressure if the new French PM cannot secure a ‘coalition of the willing’ among the multiple parties who have seats in the French parliament.

Non-Farm payrolls revisions the key data point on Tuesday

Ahead on Tuesday, we expect the focus to remain on the fallout from the French confidence vote and the formal resignation of Francois Bayrou. All eyes will be on who President Macron will choose to replace Bayrou in the coming days. There is little in terms of data releases today, instead the focus will shift to the US. The main data release is the revisions to US Non-Farm Payrolls for 2024. The BLS will release its benchmark revision to the labour market data, for the 12 months to March 2025. Analysts think that the BLS could report that hiring was 800k lower than previously expected, and there is a risk that the labor market could look even worse after the release of the revisions.

Since risk sentiment has absorbed labour market weakness well in recent days, this news may not weigh on sentiment, especially if it bolsters the case for more aggressive rate cuts from the Federal Reserve later this year.