Voters are set to turn out on 23 February for a general election in Germany which so far seems to have largely slipped under the market’s radar.

Despite being Europe’s most populous nation and its largest economy, US investment bank Morgan Stanley notes that, of investors who participated in a recent webcast on the election, just 52% had positioned themselves in any way for its outcome.

Meanwhile, the DAX index continues to serenely move to new record highs in the expectation we will see a coronation of the head of the centre-right CDU/CSU party, Friedrich Merz, as chancellor – despite the insurgent AfD party polling strongly in second place. Merz would replace incumbent Olaf Scholz whose SPD party is trailing in third place.

Writing around a week ago, Berenberg analyst Gerhard Orgonas laid out the likely scenario and the one the market appears to be pricing in. ‘Depending on how many of the smaller parties clear the minimum requirements to gain seats, a coalition will need a total share in the popular vote between 40% and 48% for a majority. No other party wants to work with the right-wing AfD, which sits in second place in the polls at around 20%.

‘The two main options for the CDU/CSU are thus either a coalition with the SPD (at 16%) or the Greens (at c4%). The former seems more likely because the SPD is doing a little better in the polls and because, unlike the Greens, it can currently block some legislation in the Bundesrat, the upper house of parliament.

‘According to current polls, the FDP will struggle to clear the 5% threshold to return to parliament. If it manages to do so and the leftist BSW also wins seats, Mr Merz may need the FDP as a third partner to put together a majority.’

The risk for markets is a more unpredictable outcome, particularly if the AfD outperforms expectations and/or Merz reverses his decision to rule out a coalition with the party.

Assuming CDU/CSU does prevail then Orgonas expects increased spending in areas like energy, defence and infrastructure. However, there are risks that a patched-up coalition might find it difficult to get things done.

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