Will The Market Break? Keep An Eye On This For the Answer
By Tyler Durden
While markets partially bounced back from the shock lows of the London morning, Citi's Matt King is not convinced this is appropriate.
- A rising tide of populism – The most obvious concern is that the vote fuels secessionist and protectionist tendencies outside the UK. This indeed seems quite likely – if nevertheless the sort of tail risk markets find it hard to price in advance.
- Beware the message from rates – More troubling and imminent is the rally in rates. This looks to us the most durable of today’s moves. Now that it is inflation breakevens falling – and not just a rally in real yields – it sends a much more negative signal for risk assets.
- Banks as the catalyst – The rates rally is wreaking havoc on bank equities in particular: SX7E is making new lows. Against this and given the negative convexity associated with potential bail-in, the relative strength in sub CDS and AT1 looks misplaced.
Is this move a temporary shock, or out for the count?
Beyond the important issue of just how messily the path to Brexit is now handled, we think the global fallout rests on two questions.
- First, to what extent does the UK result presage or encourage the rise to power of a wave of populist and secessionist movements elsewhere?
- And second, to what extent do today’s moves help to tip what was already a precarious balance in markets away from a reach for yield and back in the direction of risk-off?
On both counts, we think current market levels fail to fully reflect the risks; bank sub debt, in particular, seems vulnerable.
The rise and rise of populism
While the referendum result has a great many disturbing implications, perhaps the most troubling is the sheer extent of the gulf between what markets and most market participants deem to be desirable, and what it now turns out the majority of the public actually wants. The willingness to vote against the near-unanimous advice of experts must reflect either a gross underestimation of the economic consequences, or – worse – a public saying they simply don’t care.
But such polarization is far from unique to the UK. While the referendum result in itself seems unlikely to provide a significant direct boost to Donald Trump or perhaps even Marine Le Pen, and we are not unduly concerned about a strong Podemos showing in the Spanish elections on Sunday, it nevertheless is already showing signs of sparking a chain of events with negative economic consequences – and not only for the UK.
Most obvious are the calls for referenda in Scotland, France and the Netherlands. While the European political establishment will doubtless do all it can to suppress the tendencies towards secession, our political analysts argue that a further Scottish referendum is almost a given, and that others will follow. Even if the economic consequences of Brexit are seen in time to be very negative, it is not obvious that this will prove much of a deterrent. The UK campaign has demonstrated how easily economic statistics …read more
Source: Will The Market Break? Keep An Eye On This For the Answer
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