Volatility Is Only Certainty for Traders Parsing French Results

(Bloomberg) -- Traders are preparing for another volatile week in French markets, with focus on politicians’ strategies to curb the advance of Marine Le Pen’s party in the second round of voting on Sunday.

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France’s assets rebounded on Monday after the National Rally won the first round of the nation’s legislative election by a smaller than expected margin. But gains pared later as investors said uncertainty remains about whether the far-right party will secure an absolute majority that could enable and embolden its anti-immigration and euro-skeptic agenda.

Le Pen’s opponents already started strategizing on how to keep the far right out of power, with President Emmanuel Macron’s centrist alliance and the left-wing New Popular Front weighing whether to pull candidates from the second round. The coordination between parties to concentrate the anti-Le Pen vote is a wild card for investors, and is likely to set markets for another tumultuous week.

“The next point of stress will be tomorrow evening, when candidates will need to confirm that they want to participate in the second voting round,” said Evelyne Gomez-Liechti, a strategist at Mizuho International. “While we expect some relief-tightening in OAT-Bund spreads, there is still uncertainty ahead.”

The National Rally got 33.2% of the vote Sunday, according to interior ministry figures, while the left-wing New Popular Front got 28% and President Emmanuel Macron’s centrist coalition got 20.8%.

Here’s what market participants are saying:

Ales Koutny, head of international rates, Vanguard Asset Management

“The RN still has a path for absolute majority, but based on yesterday results it’s a very narrow one. While we are already seeing some hedges coming off this morning, we believe the main move only will happen after the 2nd round. Overall, we continue to believe this broad back up in levels give investors a great entry point across European credit and European periphery countries.”

Kaspar Hense, senior portfolio manager at RBC BlueBay Asset Management

“For the second round it looks more likely that we see some form of coalition which will make it difficult for RN to get an absolute majority. We see fair value of a RN majority somewhat lower on spreads than here, so the move tighter makes sense in our view. If we see the second round results confirming our view, and coming in roughly in line with the first round, OATs should trade tighter.”

Alberto Gallo, CIO and co-founder, Andromeda Capital Management

“Investors are overestimating risks. There’s a record-high amount of short positioning in European sovereigns and especially credit, from investors that were betting on a tail event. This was the wrong conclusion. Even in an outright RN majority, France isn’t going to exit the euro on Monday. A hung parliament or a center-right coalition would not change the fiscal backdrop. If anything, a bit more spending is positive for risk assets. You want to own equities and credit, not government debt.”

Valentin Marinov, head of G-10 foreign-exchange research and strategy at Credit Agricole

“Looking ahead, FX investors will focus on the negotiations between the parties that may join an anti-RN block expected to take place today and in coming days. With the situation still very fluid, we believe that it is way premature to declare all clear on the EUR. In particular, for the EUR investors to breathe a sigh of relief, it would take evidence that there are enough second-round three-way-races where tactical voting against RN could significantly reduce the party’s chances of absolute majority.”

Mark Haefele, chief investment officer for global wealth management at UBS Group AG

“The fundamental trend for French sovereign credit is deteriorating, in our view, with a high and rising debt ratio, elevated fiscal deficits, and an increasing cost of funding. We believe that none of the possible outcomes of the elections would significantly alter this trend in the short-term. Considering their manifesto proposals, we think investors would likely continue to be concerned about a NFP/RN led government, and risk premiums for French bonds are likely to remain elevated in the coming months. We see better relative value in select corporate bonds from multinational companies and government bonds of countries with a less challenged debt outlook”

Vincent Juvyns, global market strategist at JPMorgan Asset Management

“For me it’s still wait-and-see. I must say I’m a bit surprised by the market reaction. I think it’s clearly premature given the low visibility for this coming week. Both camps’ fiscal policies are disruptive for the French economy and the prospects for the French debt.”

Stephane Ekolo, equity strategist at TFS Derivatives

“The results are in line with what we had been seeing in the polls last week. So there’s some relief. The fear was already priced in the markets so there was no real case for a drop this morning.

What I’m afraid for France after the election is a Liz Truss moment and a burst in stress for the French debt.”

Peter Goves, head of developed market debt sovereign research at MFS Investment Management

“We struggle to see a material and sustainable snapback” in French yield spreads.

“Uncertainties are high, French fundamentals haven’t changed and the final outcome is still unknown and unknowable with the large number of three-way contests complicating matters.”

Frederique Carrier, head of investment strategy at RBC Wealth Management

“There’s already a fair bit that’s discounted in markets right now. We don’t know what will happen in the second round, but the upshot of all this is that the reform agenda that has been the driver of Macron’s presidency will get a lot less wind in its sails. The relationship with Europe is also likely to be more combative going forward. We expect volatility to continue and I don’t think it will end as we get the results of the second round next week.”

Alexandre Hezez, chief investment officer at Group Richelieu:

“The risk premium which was attached to a possible victory for the left-wing alliance is being repriced and that explains the slight rise in markets this morning. The fact that the far right may not get an absolute majority is also at play: there might be some space for the central bloc to play a part politically after the second round.”

Joachim Klement, head of strategy, economics and ESG at Panmure Liberum

“We now have a week of horse-trading ahead of us and both the left-wing Popular Front and Macron’s centrist coalition have indicated they will work together to limit the seats the RN will gain in the second round next Sunday. Overall, it seems like the RN will win between 230 and 280 seats and fall short of a majority in the National Assembly. While the euro and French stocks will likely open weaker on Monday due to the heightened uncertainty about the French fiscal position under a populist government, we expect both to strengthen throughout the week as alliances are formed to reduce the gains of the RN.”

Daniel Varela, chief investment officer at Piguet Galland & Cie SA

“A good portion of the risk associated with the first round of these elections was already priced in by financial markets. The absence of an absolute majority in parliament raising the risk of a gridlocked and minority government is probably the most likely and, all things considered, the least unfavorable scenario for the markets.

As threats to the EU or the EUR are limited and the European Central Bank has tools to curtail contagion risks, European uncertainties could be temporary, in which case the impact on global financial markets should be mild and short-lived.”

--With assistance from Sagarika Jaisinghani, Macarena Muñoz, Naomi Tajitsu, Greg Ritchie and Anchalee Worrachate.

(Updates to add voting results, latest market moves and additional analyst and investor comments.)

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