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POTUS Trump is once again demonstrating his role as “The Gamma Man,” with policies that disrupt global norms, reset the status quo, and drive paradigm shifts. In this latest instance, his actions are indirectly compelling Germany and Europe to undertake a significant fiscal transformation with far-reaching implications for the global economy.
- Key Development: Germany’s Chancellor-in-waiting, Friedrich Merz, has unveiled a bold fiscal strategy, signaling a break from traditional constraints. He proposed loosening the country’s restrictive debt brake to enable uncapped defense spending beyond 1% of GDP. Additionally, he announced a €500 billion Special Purpose Vehicle (SPV) fund for infrastructure rebuilding over the next decade, alongside relaxed debt rules for German states.
- Market Implications: This move reduces the likelihood of Europe’s prolonged economic stagnation and disinflationary spiral. Ironically, such developments are partly a response to the intentional policy turbulence emanating from the Trump administration. By addressing the U.S. fiscal deficit crisis, Trump’s policies have created ripple effects, prompting Europe to confront its own economic challenges, including the deindustrialization of its manufacturing sector driven by overregulation and climate policies.
- Market Reactions:
- The euro surged, European government bonds (EGBs) and Bunds sold off, while European equities—particularly cyclicals—and EUR rate volatility saw increased demand.
- Nomura’s Marco Brancolini commented on the market dynamics: Bund yields have risen sharply, with a cumulative 27-basis-point increase since Friday. He advises fading Bund levels at 2.8% and staying short swap spreads, anticipating further flattening of the asset swap (ASW) structure. Additional targets include extending the BUXL/DU invoice flattener to 57 basis points and pushing the UBAISPE short to -65 basis points.
- Inflation and Rate Trends: Of the recent nominal sell-off (12 basis points in 5y5y or 10y), 10 basis points were attributed to inflation, with only 2-3 basis points linked to real rates. This imbalance suggests opportunities in selling 5y5y EUR real rates at 0.57%. Curve steepening remains in play, with less crowded trades like 2s10s showing stronger steepening than 5s30s.
- European Tightening Expectations: Italian 10-year BTPs are tightening by 3 basis points, with anticipation of EU common issuance announcements in the coming weeks, which could further tighten spreads. Structural tighteners remain favorable.
- Trump’s Economic Vision: Feedback on recent commentary highlights Trump’s intent to rebalance the U.S. economy by reducing its reliance on government deficit spending. This strategy aims to shift growth toward the private sector while acknowledging the potential for a “negative wealth effect” in financial assets. Trump’s remarks on tariffs reinforce this approach: “There’ll be a little disturbance, but we’re OK with that.”
- Risks and Trade Strategies: While the approach is high-risk, Trump’s goal appears to be signaling a trajectory of reduced government spending to spur necessary Fed rate cuts and supply-side stimulus (e.g., tax cuts, deregulation). In the interim, the trade setup favors long equities in regions benefiting from easing/stimulus (e.g., China, Germany, Europe—especially cyclicals) versus U.S. equities, which face overvaluation concerns in secular growth, AI, and mega-cap themes.
- Broader Market Themes:
- Monetization of hedges and unwinding of recent winners are gaining momentum, alongside the resumption of variance risk premium (VRP) flows to capitalize on elevated volatility.
- VIX hedges and March call spreads saw monetization, with some rolling into longer-dated positions. SPX implied volatility term structures exhibited backwardation, and correlation spiked to one-year highs, signaling potential overhedging.
- Unwinds in UST and SOFR upside structures (e.g., SFRZ5 calls) and large UST futures block sales were observed.
- Navigating the Environment: Current market conditions are unfavorable for long-term directional trades, with participants focusing on tactical moves to lock in gains while managing tight stop-loss levels. This environment reflects the return of “Trump Gamma Shocks,” characterized by heightened market turbulence and rapid shifts in positioning.
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Patrick has been involved in the financial markets for well over a decade as a self-educated professional trader and money manager. Flitting between the roles of market commentator, analyst and mentor, Patrick has improved the technical skills and psychological stance of literally hundreds of traders – coaching them to become savvy market operators!