What if Le Pen won?

Markets are waking up to the possibility of a victory for far-right candidate Marine Le Pen in the 2022 French presidential elections, as are strategists. Here’s a quick summary of what they think.

The cover of the main page of the FT contains all the graphics, pen portraits and the procedure. To sum up, there is a first-round vote this Sunday and a second round on April 24. The most likely scenario according to the polls is a repeat of the 2017 second round between incumbent Emmanuel Macron and Le Pen.

Barclays offers a why:

In a nutshell, the wartime leadership advantage that Macron enjoyed after invading Ukraine is now fading as the campaign refocuses on domestic issues, particularly the rising cost of living and the erosion of purchasing power. Moreover, Macron is the incumbent, which means that all the other candidates have targeted him. Finally, the announcement of the pension reform and the so-called “McKinsey affair” may have impacted its popularity rating.

It looks tight. Voting intentions in the second round show that Macron is ahead of Le Pen by around 5 points. Five years ago, Macron won a landslide victory of 66% against 34% for Le Pen. But that was after a heated televised debate between rounds where Macron portrayed Le Pen as the heiress of his agitator father.

This time around, Macron has a disapproval rating of around 54% and has drifted to the right on issues of security and culture, shifting the window from Overton to Le Pen. Moving on to Nomura’s Jordan Rochester:

No sitting French president has been re-elected in the past two decades and far-left voters told pollsters they would rather abstain than re-elect Macron. Macron could also come under pressure following yesterday’s news that the prosecution has officially opened an investigation into the McKinseygate tax case. On a macro level, 2022 brings high inflation and the cost of living has become the top priority for voters. This is an area that Le Pen is pushing hard in his campaign.

Until a few days ago, markets were pricing in a status quo, as markets tend to do. Since then, the euro has fallen, the CAC index has underperformed and the spreads between the French OAT and the German Bund have widened. Yet there is still a possible misassessment of the risk that Le Pen and the others off center the candidates, Eric Zemmour on the right and Jean-Luc Mélenchon on the left, are doing better with a low turnout than the polls currently predict. Compared to the 2017 election, there is too much complacency and on Monday it could get a bit choppy, says Barclays, whose charts are:

Participation is the biggest complication. A model from Goldman Sachs suggests that 60% of left-wing voters in the 1st round would have to abstain for Le Pen to be elected on the basis of an equal distribution between the main candidates:

Support for the EU in France is currently getting a subsidized boost from the new generation EU, unlike in 2017 Le Pen is not campaigning to pull France out and ditch the euro. His election would nevertheless trigger a European crisis. The historic friendship with Russia and the promises to tear up treaties on immigration and trade are not compatible with the current Franco-German leadership of the EU.

Domestically, Le Pen said very little that could be quantified beyond the promise of less money for immigrants and more for gendarmes. Wealth and windfall taxes, a lower retirement age for life college types, privatization (broadcasting) and nationalization (roads) make up the conventional populist playbook and are seen as unnecessary for stocks. Nomura summarizes the main policy differences:

While Goldman maps fiscal positions to corresponding growth impulses using component-level multipliers:

But a president needs a majority in parliament, whose elections will take place in mid-June. Le Pen’s National Rally party is doing poorly in the legislative elections, holding only 6 seats out of 577 so far. Victory now would likely mean several months of bartering to form coalitions and the markets, you may have heard, really don’t like uncertainty.

What is the price ? Not that much, maybe. Barclays’ basket of stocks with 20% or more exposure to French earnings has underperformed the Stoxx Europe 600 by 3% over the past week. European equities have been out of favor for a while, so the metric taken in isolation is difficult to interpret:

In terms of currency, Nomura’s Jordan Rochester is a euro bear and sees no reason to change that view:

If the EUR trades at 1.09 ahead of the election, EUR/USD could drop to 1.05 if Le Pen wins, then drop to 2016 lows just above 1.03 . If Le Pen were to win the presidency and legislature in June, it would be a much bigger deal with EUR/USD below parity in this scenario . . . If Macron were to win, it would be status quo and EUR/USD would likely recover slightly (0.5% to 1.0%). But we also believe in the medium term that rising US real yields will weigh on EUR/USD. Even at these levels, the short-term risk-reward is for further Euro decline.

Why are [we] EUR bearish even without the electoral risk? We believe that there are still reasons for the strength of the euro to be contained. European consumers continue to face a crisis of confidence and energy prices remain well above established levels. It may still be too early for a conclusive ceasefire, but from a macro perspective, we believe there is more to come for the Fed than the ECB, the zone’s trade deficit euro is likely to widen and FX positioning is not so short in EUR. This is why we expect the euro to remain under pressure in April.

Goldman is the opposite on FX, saying the war in Ukraine and an energy crisis have brought Europe closer together, but comes to a similar conclusion for risk. Here are its prices to download:

We would expect the main impact of a Macron loss this time to be on the integration axis, lowering the bullish tail of EUR/USD.

Based on our rate strategists’ modeling described above for peripheral spreads (i.e. trading around 30 basis points tighter than “fair” value), this likely incorporates some expectation market of political support for sovereign risks. A change of French presidency would likely see this more than reversed and bring some sovereign tensions back to the fore. In this scenario, we could see the EUR/USD trade fall by around 2% (but even a tighter than expected first-round result should only partially assess this scenario). This expected decline is considerably lower than our 2017 estimates, reflecting the abandonment of the “Frexit” debate.

What the above suggests to us is that the key dimension of presidential elections in France is likely to be European rather than residing in national politics. In our view, this is a major fault line between incumbent President Macron and his main challenger, far-right candidate Marine Le Pen. Indeed, while the latter no longer pleads explicitly for Frexit, and generally toned down her anti-European rhetoric, she would likely take a more adversarial stance towards European institutions; at the very least, his election could mean that France would stop being a supporter of greater European integration. For this reason, given the increasing likelihood of a Le Pen victory, we would expect OAT-bunds and other sovereign spreads to widen significantly.

How much spread widening should we expect? We would first look for a reversal in sovereign credit performance seen in March as the chances of further zone-wide policy support diminish. Beyond that, the 2017 presidential elections can help us gauge the additional upside potential should Le Pen win. Supposing Frexit is not on the table (and domestic policy is constrained by legislative bodies), the risk premium of OAT-bunds should remain more contained than in 2017. However, the European context described above implies coefficients overflow more important than at the time, according to us.

All in all, in this adverse market scenario, we expect 10-year OAT-bunds to land at 60-75bp and 10-year BTP-bunds at 180-210bp. Conversely, if Mr. Macron is re-elected with a legislative majority – our baseline scenario – the potential for spread compression appears limited in the current macroeconomic environment, given the risk asymmetry around inflation and the tightening of ECB policy. We continue to recommend 5-year OAT shorts against European bonds ahead of the election.

French law prohibits local media from publishing exit poll results before 8:00 p.m. EST (7:00 p.m. in London, 2:00 p.m. in New York) but foreign media are exempt, so early results may leak out. good luckeveryone.

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