As we go into the US elections the market seems to be positioned for an Obama re-election and the latest opinion polls of the swing states seem to suggest that too.
The market view seems to be that an Obama win will see 10yr US Treasury yields at 1.50% and a Romney victory would see 10yr US Treasury yields at 2%.
So as we currently sit at 1.70%, the market has a bias to expect an Obama victory but it isn’t a huge conviction!
What is surprising is that Interest Rate Implied Volatility levels have fallen marginally since the weekend. That is a little surprising to me in that the potential for a very close vote remains. It is very possible that we see one or other of the candidates win the election but not carry the popular vote. It appears the most likely victor in this way is Obama and this would likely cause a Republican House rebellion against a compromise with Obama over the fiscal cliff. So in that case 10yr US Treasury yields should go below 1.50%
The other possible outcome is that the close vote would lead to a number of recounts in the swing states. This for the markets has to be the worst case scenario.
I would expect in that case to see a huge spike in implied volatilities. Whilst it initially could lead to a bounce upwards in equity markets, as the chances grow for a Romney victory, the prospect of legal disputes delaying the result for weeks if not months, means the chances that the fiscal cliff is gone over increase markedly. That again would mean a negative impact on risk markets and a boost for bonds.
And all the time there is Europe and Greece.
The new Greek Memo of Understanding with the Troika was submitted to the Greek parliament last night to be voted on today.
Yesterday the Greek Minister for Justice initially wouldn’t sign the MoU to allow it to be voted on. Reason being is that the government ordered only one article so that the parliament couldn’t pick and choose which parts it approved of. It is against normal Greek democracy and that will only lead to more demonstrations and civil unrest. It may also face legal challenges further down the line.
The arithmetic for the vote is even more chaotic. There are 300 MPs so if all are present when the vote is called then a simple 151 votes would be a majority. The three coalition parties have 176 deputies so you would assume that it is clear cut- but the two minority parties of the coalition have shown reluctance to vote in favour of the MoU. Some junior coalition members may choose to leave the vote. If for instance the Democratic Left (DHMAR) with its 17 MPs was to not be there for the vote then the Government would only need 142 votes. So it seems likely that unless the DHMAR chooses to vote against the MoU it should pass today. That maybe why the Greek debt prices have recovered a little today.
However the Greek 2013 Budget will then get voted on this Sunday. That should face a tougher test as it will follow from a week of civil unrest. A 48 hour General Strike has started today. The strikes normally end in violence and the smell of tear gas may not have cleared by the time the vote is taken. Will that sway the MPs to vote against the Budget? That is unclear but the market will be decidedly choppy and volatile in the coming weeks.
I still favour long duration positions as the economy continues to show signs of slowing beyond that expected by the market and the politicians. Whatever the voters, either Greek politicians or the US populace, choose over the coming days the economy will become the centre stage again. That will be bond supportive.