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Europe’s Periphery Debt Market Welcomes New Member: France

Posted by hkarner - 22. Februar 2017

Date: 21-02-2017
Source: The Wall Street Journal

Some investors are selling French government debt over concerns the country could leave the eurozone

Le PenA poll on Monday showing French presidential candidate Marine Le Pen in the lead for April’s first round of the presidential election drove yields on French 10-year bonds to jump to 1.064%.

Investors are once again selling the bonds of Europe’s peripheral economies amid political concerns. This time around, France has joined the club.

Some investors are selling French government debt, worried that the country will elect Marine Le Pen as its president, a candidate that has promised to take the country out of the eurozone. That has left French bonds behaving increasingly like their peers in the parts of Europe hit hardest by the 2011-12 sovereign-debt crisis.

It is quite a flip for Europe’s second-largest economy. After that crisis, French bonds traded with Germany’s. On Monday, a poll showing Ms. Le Pen comfortably in the lead for April’s first round of the presidential election drove yields on French 10-year bonds to jump to 1.064%. Yields rise as bond prices fall.

The spread with German bond yields hit 0.84 percentage points during the day on Monday, the highest in more than four years, before settling at 0.75 percentage points as European markets closed. Six months ago, this gap was only 0.22.

Also rising are Italian and Portuguese 10-year yields which are up by around 0.7 percentage points against Germany’s in the last six months. Greek yields have jumped.

france-yieldsThe premium that investors demand for holding the debt of these nations over richer northern European economies like Germany and the Netherlands will continue to rise as a range of risks grow and the European Central Bank’s massive bond buying program buys less debt, investors say.

It could be French yields leading the charge higher this time. Analysts at Japanese bank  Mizuho Financial Group, Inc. told their clients Monday that they should stop treating French government bonds on par with German or Dutch debt.

“France is in the driving seat” in eurozone bond markets, Francesco Garzarelli, co-head of European macro research at Goldman Sachs said in a recent research note.

To be sure, Southern European spreads were widening before concerns spiked over France. In Italy and Portugal, economic growth remains weak as bad debts burden banks. In Greece, concerns have resurfaced that officials will fail to secure new loans from European creditors.

But, in the eurozone, there is a history of selling in one country’s bonds that ripples out across weaker members of the currency bloc. France appears to now be acting in that role.

“If France was to leave, the viability of the remaining euro would be very difficult to justify,” said Neville Hill, co-head of global economic research at Credit Suisse.
The French presidential election takes place over two rounds this spring. Most experts and polling suggest Ms. Le Pen will fail in the election’s second round, as voters choose an “anyone but Le Pen” candidate. But international investors, in particular, are fretting about the possibility that the National Front’s candidate will pull off a Brexit-style surprise and shock markets.

A poll released Monday suggests Ms. Le Pen will win the first round of the vote, but lose in the second round, garnering 42% or 44% respectively against Emmanuel Macron and François Fillon, the two next most popular candidates. But Ms. Le Pen’s second-round polling support has been rising in recent months, causing volatility in European bond markets.

Within the 19-nation eurozone, investors always dump the bloc’s weaker economies and rush into stronger members like Germany whenever risks of a breakup of the currency emerge.

In 2012, the European Central Bank stemmed the fall in peripheral bonds by buying up billions of euros in this debt.

But ECB bond-buying has passed its peak.

Starting in April, officials will cut the amount of bond-buying they do every month from €80 billion ($84.89 billion) to €60 billion, as part of a broader trend of developed world central banks reducing their involvement in markets.

The program’s strict rules also mean that the ECB has to buy a smaller share of the debt of some of the neediest nations, chiefly Portugal. While ECB officials suggested last week that they may be increasingly favoring flexibility in these rules, investors remain worried that they hamper the bank’s ability to prop up peripheral debt.

“Without ECB support it’s hard to see how their spreads don’t widen up further,” according to Said Haidar, chief executive of the New York-based hedge fund Haidar Capital Management. Mr. Haidar is now betting against Southern European and French bonds.

Still, the ECB is unlikely to allow eurozone yields to reach 2012 levels again, investors say.

And not all of the periphery is looking shaky. Investors see the bonds of two peripheral nations, Spain and Ireland, as increasingly being on safer footing, just as they view French debt on shakier ground.

Spain’s 10-year bond yields are now around 0.5 of a percentage point below Italy’s, their most negative spread against Rome in five years. Ireland’s 10-year yields are now practically equal to France’s, yielding 1.047% and 1.035% respectively on Monday.

Investors are also finding bargains in the midst of Europe’s latest round of political turmoil, even in France. Since January, Adam Whiteley, portfolio manager at London-based Insight Investment, has bought French government debt while selling French corporate bonds, because he believes that the gap between the two has narrowed too much.

Also, most investors—particularly French ones—still believe it is unlikely that euroskeptic candidates like Ms. Le Pen will win power, and overcome Europe’s complicated electoral systems.

“I see the risk as limited,” said Frédéric Lamotte,  chief investor at Indosuez Wealth Management. “From a portfolio point of view, generally, I don’t care.”


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