07.05.25 - Germany - remains fragile
Yesterday, Friedrich Merz was elected as Germany’s new Chancellor. The initial vote in the Bundestag failed. Merz could only secure the position in a second round of voting later that day. Germany’s federal election was held back on February 23. Subsequent negotiations led to a coalition agreement between the CDU/CSU and the center-left Social Democratic Party (SPD), which was signed on May 5.
Markets: DAX index took a hit, could recover from a 2% loss and is trading sideways today. Interest rates remained unchanged while the Euro regained some lost ground.
My view: As previously noted in several comments, I do not share the prevailing optimism surrounding Germany’s current path. A closer look at the political landscape reveals a fragile foundation for such confidence. The country's governance structure appears weak at its core, with many politicians still engaged in tactical maneuvering rather than addressing the pressing structural challenges facing the nation.
The new coalition government has outlined priorities including economic revitalization, increased defense spending, stricter migration policies, and long-overdue administrative modernization. A notable step has been the passage of legislation easing Germany’s constitutional debt restrictions to enable greater military investment.
However, these policy efforts are already being undermined by internal divisions within the coalition and the growing influence of the far-right AfD party. This dynamic raises serious concerns about the coalition’s stability and its ability to implement its agenda effectively in the near term.
While certain economic indicators have rebounded slightly from recent lows, the broader outlook remains subdued. Structural headwinds continue to weigh on growth prospects.
German blue chip stocks are currently trading near their all-time highs reflecting strong investor sentiment. Much of the recent strength in German equities appears driven by capital flows shifting out of the US and back into Europe, particularly into German names. This has also provided support for Germany’s small & mid Cap indices despite underlying economic concerns.
German small and mid caps had previously been among my most favored segments for building a position. However, I got surprised by the time and strength of this year’s rally, particularly its resilience following US President Donald Trump’s so-called 'Liberation Day'. We saw stock indices rebound in a sharp V-shaped pattern.
They have now fallen off that list. Persistent structural headwinds facing Germany—combined with valuations that no longer appear compelling, have led me to adopt a more cautious stance.
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