A strange 24 hours in South Korea, as the market switches its focus to French vote

If anyone thought that political risk would settle down in the final weeks of 2024, they were wrong. It has been a strange 24 hours in South Korea. Firstly, to avoid impeachment from the opposition, the president of South Korea declared martial law. After a tussle with special forces, Korean MPs entered parliament and voted to lift the martial law and all restrictions imposed by the President. The President then issued a decree to end the martial law that he had imposed only a few hours earlier.

These events could be seen as a cynical attempt at political survival, and although the president claimed he had no choice but to enforce martial law to suppress North Korean forces at work in the South, there is no evidence of any North Korean involvement in South Korea’s politics.  After all this, the President is now expected to be impeached. The news sent Korean assets tumbling. The Korean won was the weakest currency in the Asian FX space and fell more than 1.7% vs. the USD on Tuesday. Samsung, one of the biggest firms in South Korea, has fallen more than 5% so far this week, and was down more than 1% on Wednesday. The Kospi index fell nearly 1.5%, and there were broad declines across Asian equities in the aftermath of the political turmoil.

This is a keen reminder that the political risks can crop up in unexpected of places. There is now expected to be a presidential election in South Korea at some point in the first half of 2025. Analysts are also pointing out that events in South Korea are a problem for the US. South Korea is a staunch US ally and a key democracy in the Asia region. However, after Tuesday’s subversion of the democratic process, can the US rely on South Korea at the same time as China is flexing its muscles in the region, and propping up North Korea?  The diplomatic ramifications of events in South Korea could be wide ranging. However, the market reaction could be mild, as investors have become adept at pricing in political risk. The won also clawed back earlier losses and is the strongest currency in the Asian FX region on Wednesday.

Crunch time for the French government

The euro’s recovery is continuing Wednesday, EUR/USD is continuing to climb above $1.05 although it’s crunch day for Michel Barnier’s government, as the no confidence vote is expected to take place later today. President Macron, who appointed Barnier, said that he thought the government could win the vote, and he doubted that the Far-Right National Rally would pair up with the Far left to topple the government. This is exactly what Marine Le Pen’s party has said that it will do, so Macron appears to be calling her bluff.

The Cac may also waver on Wednesday as we lead up to the vote. We will also be watching the French and German yield spread closely, which is holding around 85bps, close to the highest level since 2012. If the government manages to survive the no-confidence vote, then we could see a big recovery in French assets and the euro. However, if the government loses the vote as expected, then we could see the French – German 10-year yield spread widen further. However, losses for French bonds could be short lived. This vote would not precipitate an immediate election, and President Macron could appoint a new technocratic government. Thus, the issue around the French budget and its enormous deficit could get kicked down the road to 2025.

More record highs for the US stock market

Elsewhere, there were more record highs for US stocks on Tuesday, as the main US blue chip indices managed to eke out gains. There are signs that the market is starting to lose focus as we reach the final weeks of the year. Investors continue to blindly pile into US equities, as post-election enthusiasm persists. Gains for US stocks were meagre on Tuesday, with the S&P 500 rising by a mere 0.05%. Stock market gains were disrupted by the political crisis in South Korea, and it will be interesting to see if stocks can pick up further on Wednesday as we wait for the key US payrolls report on Friday.

Payrolls comes into focus

Ahead on Wednesday, we get the ADP private sector payrolls report, the market is expecting a 150k increase for last month. The JOLTS job openings survey for October also showed an increase in job openings. Job openings rose to 7.74mn, up from 7.52mn in September. This is a decent uptick, however, the prevailing trend for lower job openings is still intact. The largest job openings were in professional and business services and in education and the health service, which is also consistent with the long-term trend. The ADP report does not have a strong correlation with the payrolls report, which is the big event for investors this week.

As we lead up to the crucial payrolls report, the mid-cap stock market rally in the US has taken second fiddle to the larger blur chip index. The Russell 2000 fell 0.7% on Tuesday. We think that this is a sign that risk aversion is creeping in as we lead up to the crucial payrolls report and as fresh geopolitical risks arise in the East.

There was a slight reduction in Fed rate cut expectations on Tuesday after the Jolts report, however, there is still a 70% expectation of a rate cut from the Fed when they meet later this week. However, it is worth noting that the payrolls report for November is likely to seal the deal on whether the Fed will cut rates again or if they wait until January. Fed member Mary Daly said on Tuesday that a rate cut this month is not a certainty.

Bullish sentiment prevails as US stock market rally broadens out

Positioning in US stocks remains strongly one sided. The bullish sentiment has surged since the election of Donald Trump, however, there are signs that sentiment could be showing the early signs of fraying. For example, momentum was the only positive driver of stocks on Tuesday, with declines for value stocks and dividend payers. However, in the past week, momentum has faltered, which is a sign of shifting leadership in the US stock market. Investors are generally starting to favour the lower valued mid-cap US stocks, even if they did slip up on Tuesday. If we get a decent payrolls report on Friday, which suggests solid economic growth along with rising expectations of a rate cut from the Fed later this month, then expect the small cap US stock market rally to continue.

UK stock market continues to shrink

Also, the UK stock market is shrinking, according to Bloomberg, at its fastest pace in 10 years. 45 companies have delisted from the London market, suggesting that UK companies may be trading at too cheap a valuation. The government may be breathing a sigh of relief that Shein, the Chinese fast fashion retailer, is likely to list in the UK next year, with a valuation of £50bn. However, if the UK wants to remain relevant, it may need to boost the valuation of domestic companies, or find cross boarder listing opportunities, which could see more foreign companies list in London to make up for the shortfall of British companies on the index.