Deutsche Bank says Europe's bond market just suffered its sharpest sovereign shock in decades, while equities and credit barely reacted. The bank warns the gap between the two can't hold, and sees the euro facing a double headwind if stress spreads instead of fading.
Europe's bond market just had its sharpest sovereign shock in decades, and equities shrugged it off — a calm Deutsche Bank says will not last unless the stress fades fast.
Spreads widen to multi-decade extremes
According to Deutsche Bank macro strategist Henry Allen, the spread between French and German 10-year government bond yields widened by 32 basis points last week — the largest weekly increase in Bloomberg data stretching back to German reunification in 1990 — leaving the spread at its widest since 2012. Italy's spread over 10-year Bunds widened by 23 basis points over the same period.
Allen said the moves resembled earlier crisis episodes, when sovereign bond stress ran alongside heavy losses in European equities — the euro-area debt crisis of 2011 and 2012, the pandemic shock of March 2020, and the 2022 selloff.
Stocks and credit barely react
This time, the reaction has been far more contained. The STOXX 600 slipped just over 1% last week and remains within 4% of its record high, while euro investment-grade credit spreads ended the week around 100 basis points, well short of those earlier episodes. Allen described the combination of sharply wider sovereign spreads, limited equity losses, and only modest credit widening as highly unusual, saying rates markets were pricing contagion and a hit to growth that other asset classes had yet to reflect.
A broader Deutsche Bank assessment frames the same divergence globally: bond markets already signal a new macro regime of multi-decade-high yields, faster rate hikes, and oil above $100 a barrel, yet equities remain close to record highs, the VIX stays subdued, and credit spreads show little strain. Oil futures still price a return to normal conditions next year, despite repeatedly getting that call wrong — part of the inflation pressure keeping yields elevated.
Euro faces a fragmentation headwind
For the euro, wider French and Italian spreads point to fragmentation risk inside the currency bloc itself. If the gap closes through a broad risk-off move rather than easing stress, Deutsche Bank sees the dollar gaining another source of support, while the euro and high-beta currencies look more exposed.
Deutsche Bank's conclusion is that bonds have priced the warning while risk assets have not priced the consequences, pointing to the aftermath of Silicon Valley Bank's collapse in March 2023 as the template for a benign outcome, in which stress eased rapidly. Without a similarly swift calming of conditions, it expects pressure on equities and credit to build.
Source: Investinglive
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