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French Bond Yield climbs to 4-year high vs German Bund on fears of Far-right Win at upcoming Elections in France


Feb 19, 2017

     On February 7th, France’s Finance chief Michel Sapin, trying to stem the rise in French borrowing costs in recent weeks, on uncertainty regarding the outcome of the upcoming French election, warned traders who were betting against the Euro and betting a on victory by Marine Le Pen, – they are guaranteed to lose a lot of money. “Those who, in good faith or by speculation, bet against France because they think Le Pen can win are not only wrong, but I’ll be frank: they will lose a lot of money. I don’t know where the government bonds yield spread will be by April, maybe higher, but you’ll have a very, very quick drop after the presidentials,” he said.

     Uncertainty about the outcome of the election, taking place in two rounds on April 23 and May 7, has lifted the premium that investors demand for holding 10-year French bonds over German Bunds to +75-basis points last week, its highest for almost four years. Sapin, a French political veteran, said some investors didn’t seem to understand the French electoral system, which he said would guarantee anyone facing Le Pen in May’s runoff an easy victory with about 60% to 70% of votes. “That’s the reason why Marine Le Pen will never be elected in France,” he told a group of European journalists.

     Even though Le Pen looks certain to reach the head-to-head second round, all opinion polls show she will be soundly beaten by whoever she faces, with independent centrist Emmanuel Macron, currently in top poll position to defeat her. Sapin said observers were wrong to draw parallels with Britain’s decision to leave the EU and Donald Trump’s election in the US, which had both caught markets off guard. “Saying: ‘since we were wrong once, wrong twice, we’re wrong on Le Pen’ is to not understand anything about France.”

     Since the election of Donald Trump as US-president on Nov 8th the French race has been closely-watched as another crucial battle between populist and establishment forces. Under the French electoral system, the two leading candidates face each other in a run-off vote on May 7, presenting a significant hurdle to Le Pen. European Commissioner Pierre Moscovici, a French Socialist, said in January, that there’s little chance of Le Pen securing the broad support needed for victory. “I’m not worried about Madame Le Pen being president,” Moscovici said in a Bloomberg Television interview. “I don’t want Madame Le Pen in power. Never, ever in my country.”

     France’s far-right party leader Marine Le Pen approves of the Russian annexation of Crimea and opposes the resulting sanctions against Russia. She wants to take France out of the NATO military alliance, the Euro, and probably out of the EU. Le Pen told thousands of flag-waving supporters chanting; “This is our country!” that she alone could protect them against Islamic fundamentalism and globalization if elected president in May. “What is at stake in this election … is whether France can still be a free nation. The divide is not between the left and right any more but between patriots and globalists.”

     Le Pen says she would drastically curb migration, expel all illegal migrants and restrict certain rights now available to all residents, including free education, to French citizens. She said migrants without identity papers could never be legally allowed to stay in France or get free healthcare.

     An FN government would also take France out of the Euro zone, hold a referendum on EU membership, and slap taxes on imports and on the job contracts of foreigners. “Past leaders chose deregulated globalization. They said it would be happy, it turned out to be atrocious,” Le Pen said. “Financial globalization and Islamist globalization are helping each other out … Those two ideologies want to bring France to its knees.”

     French elections are usually a two-horse with between the conservative Les Republicains and the left-wing Socialist Party. But for this year’s election, all bets are off. Francois Hollande’s Socialist Party is in tatters after a disastrous term that has made him one of the least popular presidents in the country’s history. But with Les Republicain’s Francois Fillon smarting from a scandal over claims he paid his wife thousands of Euros to do a fictitious job, his victory is no longer a foregone conclusion. Fillon’s campaign was plunged into chaos after a French newspaper accused him of paying his British wife, Penelope Fillon, up to half a million Euros to do a job that never existed. The embattled French conservative presidential contender has seen his approval ratings plummet, and now faces being knocked out of the election according to recent polls.

     Emmanuel Macron, a centrist independent candidate in France’s election race, is likely to win France’s upcoming election in the second round, according to recent polls. Mr Macron was president François Hollande’s eminence grise at the Elysée advising him on economic reform before serving as economy minister from 2014 to this year. But he angered his former mentor by resigning to create his new centrist party, called “En Marche” (“On the Move”). The presidential hopeful has cast himself as a maverick outsider who favors staying in the EU and continuing to use the Euro. However, Macron has never held elected office, and insists he is “neither of the Left or the Right” but “for France.” As a relative newcomer to the rough and tumble of a French election campaign, his lack of experience will prove to be his main source of appeal, or his downfall, depending on who you ask.

     Yet in another strange twist and turn in the outlook for the upcoming election in France, – talk of a far left alliance has injected a little fear into markets. France’s two left-wing politicians might be gearing up for an alliance in what promises to be a tough second round campaign against right-wing candidate Marine Le Pen. Socialist Benoit Hamon and hard-left candidate Jean-Luc Melenchon held talks on February 17th about possibly joining forces to beat Le Pen and her Front National party. Opinion polls put support for the two men at levels which, if combined, could be enough to reach a May 7 runoff election between the two top-scoring candidates. That would knock out Macron and Fillon, leaving a choice between the far right and the far left. French bond yields ticked higher to +75-bps over the German 10-year Bund on the news, and the Euro sank towards $1.0615 and to below ¥120 versus the yen. 

     Last week, Le Pen escalated her criticism of the Euro. “The Euro is not a currency. It is a political weapon to force countries to implement the policies decided by the EU and keep them on a leash. Look at what happened to the Greeks when they said no to austerity, as they were right to do: Liquidity for the Greek banks was cut off.” Economists figure that a depreciation of -10% for a new French franc, relative to the Euro would needed to restore France’s competitiveness in exports to where it was in 1999.

     A French abandonment of the EU and the Euro would essentially mean the bloc losing its second- and third-biggest economies at the ballot box in the space of less than a year. However, Le Pen would still need to garner enough support in parliament to call for a referendum and then the citizens would have to vote in favor of leaving the Euro. That’s not impossible, but it’s also not a done deal that if the Front National will win the second round, that France will leave the Euro.

      In London, the bookies at Ladbrokes and William Hill give Macron a 36% to 38% chance of becoming the next president of France, compared to 33% odds for Le Pen. However, those odds have narrowed sharply from just a few weeks ago, when Macron was +12% ahead of Le Pen. In the New Zealand futures markets at PredictIt.org, Le Pen is actually ahead by 39% to 36% over Macron.

     If the two left parties led by Socialist Benoit Hamon and hard-left candidate Jean-Luc Melenchon merge together, they could be involved in the showdown in round #2. If correct, the odds of Le Pen winning the race could jump to 50% or higher. If correct again, that could knock the Euro towards parity with the US$ in a knee jerk reaction, and to below ¥115 versus Japan’s currency, which is regarded as an “Off Risk” Currency for leveraged carry traders in the foreign exchange markets, from just under ¥120 today.

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