A week that started with US President Donald Trump intensifying his trade-war rhetoric and a eurosceptic shift at the Italian general election also saw the ECB continue its gradual 'normalisation' of monetary policy by removing its easing bias. Following a sell-off in, notably, European equities early in the week, sentiment recovered as the ECB managed to sell a hawkish action on a dovish note. Moves in US Treasuries were overall muted this week and the 10Y yield remains in the 2.85% area and, thus, is still somewhat off the key 3.0% level reached during the US taper tantrum in 2013/14. While EUR/USD remains in the middle of the 1.21-1.26 range, in which we still see the cross near term, USD recovered against most majors.
Political risks back in EUR and Italian bonds
While the SPD voted to join the CDU in forming a coalition government, securing Angela Merkel another term as German chancellor, the hung parliament outcome in Italy following last weekend's election with anti-establishment parties such as the Five-Star Movement and Northern League, seeing strong backing from voters, keeps political risks on the agenda in the eurozone for the time being (see Italian Election Monitor: Eurosceptic shift , 5 March). However, it is not likely to be until 23 March, when both houses of parliament come together for the first time, that we will get a clearer indication on where Italy is heading. In our view, it is unlikely we will have a new Italian government in place before May or June this year and a new election remain a possibility. The uncertainty and notably risk (if small) of a eurosceptic government being formed should keep a political risk premium in EUR crosses and keep Italian bond yields under pressure near term.
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