Executive summary
This week, we look at three critical issues:
- Quarterly country and sector risk changes: Charting paths of recovery. At the end of Q2 2024, we upgraded 15 countries and downgraded two as global economic growth looks set to recover to +2.8% for 2024-25. At the same time, 15 sectors got an upgrade while eight got a downgrade, also reflecting the slight cyclical improvement. The outlook for transportation and energy improved, while the household equipment sector faces challenges. Overall sector risk remains stable, with the highest risk in Latin America and the lowest in Asia.
- The risk of stranded assets in European commercial real estate. The revised Energy Performance of Buildings Directive is putting Europe’s buildings sector under increased scrutiny. Despite significant progress toward emission-reduction goals, there are big differences between countries and more efforts are needed for both decarbonizing energy supply as well as increasing energy efficiency via renovation. We estimate the total renovation costs for non-residential real estate in EZ-4 countries to be approximately EUR165bn to achieve the 1.5°C compliance target established for 2024. Without renovation, we estimate that European banks’ portfolios could have EUR400bn worth of commercial real estate assets at-risk of becoming stranded in the next decade.
- French elections: The good, the bad and the ugly for markets. The status quo with a hung parliament would see investors looking to buy the dip, with the risk premium on French assets easing but remaining slightly above pre-election-call levels. In this “good” scenario, French 10y yields would be close to 60bps end-2024; investment-grade corporate spreads would be at 120bps for both 2024 and 2025 and equity markets would be up +7% in 2024 and +10% in 2025. Should a far-right or far-left government come to power, we see two possible market outcomes. The “bad” scenario would be a persistent increase in the French risk premium due to a structurally higher fiscal deficit and moderate anti-European and anti-corporate rhetoric, with negative consequences for domestic financial markets but limited contagion to the rest of Europe. In that case, French government bond spreads would reach 90bps; corporate credit spreads near 200bps and equity markets -6%. The “ugly” scenario would not be a repetition of the 2012 euro crisis but will be testing: (i) the ECB put to limit the financial fall-out, (ii) the flexibility of the new Commission with excessive deficits, interventionism and an anti-European stance and (iii) the willingness of partners, especially Germany, to be constructive (and patient). This prisoner’s dilemma situation (nobody wants a weak France) could still cause French government bond spreads to reach 120bps; corporate credit spreads to hit 250bps and equity markets to fall -12%, as well as Italian spreads to widen up to 400bps before the ECB steps in with TPI.