KBC Sunrise Market Commentary 05/03/2025 via Trader Talent

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Market Commentary

Markets

•          German Chancellor-to-be Merz vowed to do “whatever it takes” to fend off threats to freedom and peace in Europe. In a reference to ECB Draghi’s 2012 speech that turned the tide in the EMU debt crisis, Merz now pledges to go all-in fiscally. At a joint press conference between CDU/CSU and SPD leaders, Merz said that future coalition partners will use the outgoing parliament to set up a €500bn fund for infrastructure (which will run for 10 years) via a constitutional amendment, loosen debt rules for states and exempt defense spending above 1% of GDP from the debt brake. The latter is actually a blank cheque to raise debt to strengthen the army and provide assistance to Ukraine. The bills will be brought to parliament next week and need a two-thirds majority which in the old constellation is possible with the support of the Greens. They have been in favour of changing the constitutional debt brake rule (keeping the structural deficit at 0.35% of GDP) for longer. The official German U-turn on fiscal spending comes on the eve of a EU Council Summit at which European leaders will explore more options to Re-arm Europe as EC von der Leyen labelled it. In a letter to EU leaders, she outlines five potential measures to massively boost defense spending. They include a new €150bn loan instrument to finance joint defense investments and €650bn from individual member states increasing defense spending by 1.5% of GDP on average and for which fiscal discipline rules will be once again lifted.

•          Germany’s change of heart on expansive budgetary politics triggers more spectacle on financial markets. European equity futures point to opening gains in excess of 1.5% with German Bunds massively selling off with the long end of the curve obviously underperforming. Resistance for the German 10-yr yield stands at 2.65% (2025 top) and 2.71% (2024 top). The euro succeeded a technical break through first resistance levels at 1.0533 (previous YTD top) and 1.0551 (38% retracement on Sep24-Feb25 decline) as spending efforts will boost growth. The dollar shows more sings of weakness (US recession fears) as Trump’s explosive policy mix risks backfiring. The US government seems to be playing playing good cop, bad cop on topics like tariffs and Ukraine. Most recent messages are again somewhat more positive with Trump signaling a potential revival of the mineral-deal after receiving a letter from Ukrainian president Zelensky and Commerce secretary Lutnick saying that the administration may soon announce a pathway to tariff relief for Mexico and Canada. US Treasuries seem to be losing steam after their stellar run since mid-February. Today’s ADP employment report and US services ISM will be interesting in this respect. Failure to take out yesterday’s highs in US Treasuries on soft data suggests that the short-term repositioning went far enough. This could also help US risk assets finding some composure.
 

News & Views

•          China’s PM Li Qiang during today’s National Party Congress turned the long-rumoured 5% growth target for this year into an official one. It will be the third year straight the country seeks to grow by this much. Circumstances this time around make the goal even more ambitious. US president Trump’s import tariffs (currently standing at 20%) will bite into Chinese exports, which contributed around a third to last year’s GDP growth. China as a result turns the focus towards its domestic market. It has raised the budget deficit target to around 4% of GDP, the highest in more than three decades, and increased the amount of special sovereign bonds it plans to issue by CNY 300bn to CNY 1.3tn. The proceeds will be used to fund greater public spending in areas including infrastructure as well as to finance a subsidy program for consumer goods. The unemployment rate goal remains at last year’s 5.5%. Following the long streak of weak inflation or even deflation, China lowered the CPI goal from around 3% to around 2%. Li said the central bank will cut interest rates and the reserve requirement ratio “at an appropriate time”, meaning monetary policy will flank the fiscal side in stimulating demand. The Chinese yuan strengthens marginally this morning to USD/CNY 7.256. Chinese stocks trade in the green, along with most other Asian-Pacific peers.

•          IMF Georgieva warned that trade will no longer be driving global economic growth the way it used to. “The new US administration is rapidly reshaping its policies on trade, taxation, public spending, deregulation and digital assets, and other governments are also recalibrating their approaches and adjusting their policies.” She called on the typically trade-reliant Asian nations specifically to adjust to these changing norms by shifting towards more service-led growth, digitalization and AI. She also promoted regional integration as an answer to the deglobalization trend.
 

Graphs

German 10-y Yield

The ECB is nearing a fine-tuning phase where back-to-back reductions are over. A rate cut in March (to 2.5%) may be complemented by removing the label “restrictive” on its policy stance as the debate on the neutral interest rate kicks off. For the long end of the curve, upward yield pressure stems from a massive defense investment wave that’s on the way. A test of the 2025 & 2024 tops might be in the cards.

US 10y yield

After three consecutive cuts, the Fed installed a pause in January which we expect to last at least through June. The Fed wants to see “serial readings” suggesting inflation is progressing towards target. A pause simultaneously offers time to a clearer view on president Trump’s policies. The prolonged Fed rates status quo provides a solid bottom beneath front-end US yields. The long end is more vulnerable on how the explosive policy mix could backfire to the US economy as well.

 

Calendar & table

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