In March, the five key "mismatches" in the global market

According to the latest research report from Deutsche Bank, there are five major mismatches in the global financial markets as March comes to a close:

From concerns about a U.S. economic recession and the divergence of the yield curve, to the unusual changes in fiscal stimulus and sovereign bond spreads in Europe, and the disconnection of the Japanese credit market performance from other assets, these mismatches may signal an impending market adjustment or investment opportunity.

U.S. Recession Concerns and Divergence of the Yield Curve

Deutsche Bank macro strategist Henry Allen pointed out in a report on Tuesday that as concerns about a U.S. economic recession continue to grow, major U.S. assets have shown weak performance. The U.S. dollar is the worst-performing G10 currency this year, high-yield bond spreads have widened by 15 basis points, and the U.S. stock market, particularly technology stocks, has also weakened.

However, the yield curve for 2-year and 10-year Treasury bonds has not shown the typical flattening phenomenon; instead, it has slightly steepened.

The probability of a U.S. recession in the next 12 months has risen to 25%, but the yield curve has not flattened as it did before the last 10 U.S. recessions, and it is even steeper than when the S&P 500 index reached an all-time high on February 19.

Typically, when recession expectations rise, the Treasury yield curve flattens or even inverts. Clearly, the current trend of the U.S. Treasury yield curve does not align with historical patterns. Therefore, Deutsche Bank believes that this may indicate that the market's concerns about a recession are exaggerated.

The report notes that the hard data of the U.S. economy is performing strongly, especially as the job market remains robust, with 151,000 new jobs added in February, and retail sales and industrial production also showing growth.

Additionally, expectations for interest rate cuts by the Federal Reserve and potential fiscal stimulus measures (such as the continuation of Trump's tax cuts) may also support the steepening of the yield curve.

U.S. High-Yield Bonds and Cash Spreads at Historical Lows

Despite the overall decline in risk appetite in the U.S. market, the spread between U.S. high-yield bonds and cash remains at historical lows.

According to the report, the current yield on U.S. high-yield bonds is 7.5%, only about 300 basis points higher than the federal funds rate of 4.5%, which is one of the lowest levels since 1988, and historically, such situations usually last for a very short time.

Compared to the average risk premium since 2014, the current performance of high-yield bonds suggests that multiple rate cuts would be needed to support it. However, Deutsche Bank predicts that the Federal Reserve will not cut rates this year, as inflation remains above the Fed's 2% target. Therefore, the spread on high-yield bonds may further widen to restore normal market risk premiums.

It is worth noting that even considering the recent widening of spreads, the spread on U.S. high-yield bonds remains relatively narrow compared to the past decade

ECB Rate Cut Expectations and Front-End Yields' Unusual Indifference to Fiscal Stimulus

Despite significant fiscal policy shifts in Europe, particularly in Germany, the expectations for ECB rate cuts and German short-term yields have reacted unusually indifferently.

At the beginning of 2025, before any anticipated fiscal stimulus, the market expects the ECB to cut rates by 116 basis points by the December meeting.

However, despite the apparent fiscal policy shift, short-term market pricing has changed little. As of the most recent close, overnight index swaps still expect the ECB to cut rates by 102 basis points by December (including the already implemented 50 basis points), which is only 14 basis points less than the beginning of the year. The German 2-year yield closed at 2.12%, up from 2.08% at the beginning of the year, an increase of only 0.04 percentage points.

This sluggish response occurs against a backdrop of rising inflation and growth expectations: Bloomberg's consensus forecast for the 2025 CPI inflation rate is 2.2%, up from 2.0% at the beginning of the year; Deutsche Bank economists have raised their growth forecast for Germany in 2026 to 1.5%, and to 2.0% in 2027; the Eurozone composite PMI flash estimate for March reached 50.4, a seven-month high.

The Anomalous Relationship Between Relaxed European Fiscal Policy and Narrowing Sovereign Bond Spreads

European governments are shifting towards more accommodative fiscal policies, but this has not led to an expansion of sovereign bond spreads; instead, they have narrowed. The spreads of 10-year government bonds in France, Italy, and Spain relative to German bonds are all below the levels at the beginning of the year.

Previously, the EU proposed that member states could allocate 1.5% of GDP for increased defense spending each year; NATO's Secretary-General indicated that the target for defense spending as a percentage of GDP could be "well above 3%"; French President Macron also discussed allocating 3-3.5% of GDP for defense.

The report notes that the narrowing of spreads may be due to Germany initiating a large-scale fiscal stimulus plan, which has driven German yields up relative to other countries; and the broad improvement in risk appetite, reflected in the strong rise of European stock markets this year, aligns with the narrowing of spreads, especially considering the growth boost that higher spending may bring.

Japan's Credit Market Performance Disconnected from Other Asset Classes

From the beginning of 2025 to now, Japan's Nikkei index has fallen by 5.7%, underperforming the S&P 500 index (down 1.9%) and the STOXX Europe 600 index (up 8.1%). The yield on Japan's 10-year government bonds has risen by 45 basis points, a larger increase than that of the U.S. (down 23 basis points) and Germany (up 41 basis points) in similar assets.

However, this weak performance has not been reflected in the credit market. Although Japan's credit market is relatively small, its investment-grade bond spreads have narrowed by 3 basis points this year, in contrast to the 9 basis points widening of U.S. investment-grade bond spreads. Currently, Japan's bond spreads are at their narrowest level in nearly three years, showing a completely different trend from the stock and government bond markets

The report indicates that the decline in Japan's stock market and government bond yields may be related to global market sentiment and the domestic economic situation in Japan, but the tightening of credit spreads may reflect the market's optimistic expectations regarding the credit conditions of Japanese companies, or the market's expectations regarding the monetary policy and fiscal stimulus measures of the Bank of Japan