The worst has been avoided
From the financial markets’ point of view, the worst has been avoided in the first round of the French presidential elections. The prospect of Marine Le Pen securing a very high share of the vote – and the potential for a second-round runoff between Jean-Luc Mélenchon and Ms. Le Pen – had led to increased risk aversion in recent weeks. This logically benefited German bunds more than all other fixed-income assets in the euro zone.
Although we are not surprised by the markets’ initially positive reaction to the fact that the euro-phobic French presidential candidates fell short of expectations, we are nonetheless wary of how sustainable this fresh rise in the markets’ risk appetite can be.
Opinion polls for the second-round runoff between Emmanuel Macron and Ms. Le Pen are indicating a very likely victory for Mr. Macron, which is so far being reflected in the markets. Calls from the former governmental parties’ candidates, François Fillon and Benoît Hamon, to vote for Mr. Macron against Ms. Le Pen have added weight to this potential outcome.
If this scenario were to hold, France’s legislative election in June would be the most important event on the horizon – and there are major questions over the shape of the potential majority with which Mr. Macron would be able to govern. Although he is on the verge of achieving an incredible accomplishment as the youngest-ever elected president – younger even than Louis Napoléon Bonaparte – it is far from certain that the momentum sweeping him into power would be strong enough to ensure a parliamentary majority. If his party fails to secure this majority, which cannot be ruled out, or if he needs to rely on cross-party backing for the approval of specific projects, Mr. Macron’s reform-minded ambitions would be significantly curtailed. This would undermine the fresh momentum he intends to give to the European project.
As a result, we would wait until after the legislative elections to adjust our positioning among risk assets. Once the “French risk premium” dissipates, all euro-zone spreads should benefit, and nothing aside from persistent geopolitical risks should prevent the overvaluation in bunds from correcting.
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