Marco Mencini, Head of Research Plenisfer Investments SGR
The newly elected U.S. President, Donald Trump, aims to support the country's economic growth, including through the imposition of tariffs. According to market consensus, in response to aggressive U.S. trade policies, China might resort to a currency move aimed at devaluing its currency.
We disagree with this consensus and believe things could unfold differently.
A premise: For years, China has been supporting the renminbi to preserve the outperformance of bonds issued in Chinese currency compared to European and U.S. sovereign bonds.
A fact: Recently, China issued Chinese Republic bonds denominated in U.S. dollars in Saudi Arabia.
What might be the reasons behind this move? We believe it can be interpreted as a signal of China's intent to challenge the United States' monopoly on offshore dollar circulation—the privilege of issuing the currency that serves as the world's reserve. It can also be seen as a strong message to emerging markets indebted in dollars: China is showing that an alternative market could exist.
This dynamic represents a trend still in its early stages that will require long-term monitoring but is undoubtedly a strong and positive signal for emerging market bond markets.
Returning to potential currency developments, we expect U.S. dollar demand to steadily increase domestically due to the rising national debt requirements needed to manage the significant public deficit and support tax-cut policies, should the new Trump administration implement them without reducing public spending.
The potential rise in U.S. dollar debt issuance could continue to translate into higher long-term rates. Over the past year and up until Trump's victory, we have seen a 70 basis point increase in long-term US Treasury yields, which have since stabilized. However, we believe this trend could continue, particularly if Trump's announcements materialize.
Looking at the euro, we believe its weakness reflects fiscal policy challenges and anaemic economic growth which, excluding the NRRP (National Recovery and Resilience Plan), would be substantially negative. This is compounded by the lack of structural reforms to support growth and ongoing leadership crises in key economic countries such as France and Germany. If the new German government, to be elected next February, were to focus its agenda on reviving public spending, we would face an additional inflationary factor on top of that caused by U.S. tariffs.
In this scenario characterized by new inflationary risks, a delicate situation could arise for the European bond market, which will also face a refinancing phase in 2026, the year when a significant amount of government issuances will mature. The net supply (i.e., the difference between the debt Europe is estimated to issue in 2025 and maturing bonds, net of ECB purchase and sale activity) in 2025, amounting to approximately €850 billion[1], will historically be the highest ever. If the market were to deem the public finance stabilization processes and European debt levels inadequate—which could face further pressure in an inflationary scenario—it would become necessary to issue new debt at rates higher than currently anticipated by the market.
[1] Source: Bloomberg
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