The German election and markets

22 sep 2017
por BlackRock

Key takeaways

  • Germany will hold national elections for Chancellor on September 24 with Angela Merkel seeking a fourth term. The election occurs at a time when Europe is enjoying an above-trend pace of economic growth and a broadening recovery, which has helped make Europe one of the favored investor regions this year (even if the euro’s strength is prompting inflows to slow). With many European elections in recent years having surprise results that moved markets, investors are wise to monitor developments leading up to the vote.
  • We believe a Merkel win would likely be positive for markets, although we do not expect a strong reaction given that current polls show Merkel with a healthy lead. Instead, the makeup of the government could have greater ramifications.
  • A Merkel win would likely lead to either the reinstatement of the current grand coalition between the conservative Christian Democratic Union-Christian Social Union (CDU-CSU) alliance and the Social Democrats (SPD), a new three-way coalition with the liberal FDP and the Greens, or even to a CDU/FDP coalition.
  • Any of these scenarios is potentially favorable for German equities, with the inclusion of the FDP in any governing coalition adding even more impetus.
  • We see a more muted increase in German bond yields under Merkel than an SPD-led government.

What might the German election mean for markets?

Although the SPD has typically managed to gain or recover ground in the immediate run-up to general elections, the 15% lead held by the CDU at the time of writing1 looks hard to beat.

A Merkel win would likely lead to either the reinstatement of the current grand coalition between the conservative Christian Democratic Union-Christian Social Union (CDU-CSU) alliance and the Social Democrats (SPD), a new three-way coalition with the liberal FDP and the Greens, or even to a CDU/FDP coalition.

We believe that any of these scenarios would be favorable for German equities, with the inclusion of the FDP in any governing coalition adding even more impetus. We see a more muted increase in German bond yields under Merkel than an SPD-led government.

Should the result fall in line with expectations, we will be closely watching not only Merkel's choice of coalition partner (or partners) but which ministries will be held by which party. Both coalition make-up and ministerial responsibility could have a significant impact on economic policy over the term of the next government – and therefore what we might expect from markets.

A Merkel victory could signal greater European integration, particularly following President Emmanuel Macron’s election as president of France earlier this year. However, it is also important to place the election in the context of a broader European economic recovery. Europe is enjoying an above-trend pace of economic growth and has been one of the favored regions among investors in 2017. Recent strength of the euro has slowed inflows, however. Ultimately, the pace of economic growth may have a greater impact on German equities than the election outcome.

Equities: It is important to note that while a Merkel victory may be interpreted as market positive, we do not expect a strong equity market reaction given her lead in the polls and the relative recent calm in markets. Nonetheless, a look at what happened to the German equity market – below represented by the MSCI Germany Index – in the days and weeks following the last three CDU/Merkel victories shows why some investors may view a returning Merkel as market positive, although past performance is not a guide to future performance, of course.

German market’s performance around previous elections

German market’s performance around previous elections

Chart shows performance of MSCI Germany Index, 50 trading days before/after a Merkel win at a general election. Performance is expressed on a total return basis with net income reinvested. Source: Thomson Reuters Datastream, BlackRock Investment Institute, as of 8/2/17. Index performance is for illustrative purposes only. Index performance does not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results.

 


Bonds: We see a Merkel government as likely to produce less upward pressure on German bund yields over the course of the next term compared to an SPD government led by Martin Schulz.

How might markets react to
a Merkel defeat?

Equities: In the seemingly unlikely event of a defeat for the incumbent chancellor, we would expect the initial market reaction to be strong and for German equities to sell off. That said, we don’t believe an SPD-led federal government would inevitably lead to any such underperformance over the longer term.

Bonds: In bond markets, a more relaxed approach to budgetary discipline under the SDP could push bund yields up slightly more than we foresee under any variation of a CDU-led government – including that of an SPD-led BMF as part of a grand coalition. It is our belief, however, that the difference between what either of these election outcomes could mean for bond yields would be limited.

Conclusion

Germany faces broader underlying issues – such as the problems facing the German car industry – which we believe will likely not be affected one way or the other by the result, at least in the short term.

Nevertheless, significant political levers do exist. In addition to technological change, we believe that investors may wish to consider the current positive European environment, where we see spreading growth and improving earnings continuing to support and shape the recovery of the eurozone economy in the years to come.

Both Angela Merkel and her opponent, Social Democratic Party head Martin Schulz, have positioned themselves as defenders of European integration. So long as this present positive view of the EU is maintained or even improves, we believe the eurozone and therefore Germany could remain attractive to foreign investment.