the French election?

French elections

As I mentioned yesterday, there’s at least some chance that control of the French government will fall in the Spring to a party that vows to:

–leave the euro,

–engineer a depreciation of the newly-resurrected French franc and

–repudiate euro-denominated French national debt.

This is not just like Brexit, since Brexit didn’t involve government refusal to repay previously incurred financial obligations.  It’s way worse.  This is more like Argentina or Cuba.

Sounds crazy, but so did Brexit and so did Trump.

What to do?

…particularly since it’s hard for me to figure the chances of any of this happening, and I no longer know that much about French stocks.

Two lines of thought:

–avoiding being hurt, and

–trying to make money.

Both will be brief, since I don’t know enough to say any more.

avoiding being hurt

Currency depreciation would have effects much like what’s happened in Japan during the Abe administration.  National wealth and the standard of living of ordinary citizens could take a substantial beating.  Export-oriented industries would thrive.

It’s likely that French companies would have a more difficult time raising money in global capital markets, if France refuses to honor its existing euro-denominated debt.  Companys’ repayment of debt not denominated in francs would become more costly.

Knock-on effects:  my guess is that Italy wouldn’t be far behind France in leaving the euro.  The currency union would likely end up being Germany plus bells and whistles.

The way bond investors are now taking defensive measures is by selling their French government-issued euro bonds for German issues, giving up 0.4% in annual yield to avoid a potential currency loss.

We, as equity investors, can do something similar now, by avoiding non-French multinationals with large exposure to the French economy.  If we want to/need to have some French exposure, it should be in companies that will benefit from possible devaluation–that is, firms with costs in France but revenues elsewhere.  Here the performance of Japanese stocks should be a good guide, except that I’d avoid French companies with a lot of foreign debt.

trying to make money

I consider betting on future political developments to be a dubious enterprise.  If Marine Le Pen makes an unusually good showing in the first round (of two) in French voting in April, and if the French market sells off sharply on that result, I’d be tempted to look for beaten down French multinationals, on the thought that Le Pen would lose in the second round.  I’m not sure I’d actually do anything, but I’d be willing to think about it.  This would imply beginning to study potential purchase candidates, or a suitable ETF, now.

 

 

 

a French sovereign debt default?!?

First there was the surprise Brexit vote in the UK, after which sterling plunged.

Then there was the improbable victory of Donald Trump in the US presidential election, which sent the dollar soaring.

Now there’s France, where the odds of a far-right presidential victory by the Front National have improved.  A competing right-of-center candidate, former frontrunner François Fillion, has been hurt by allegations that his wife and children did little/no work in government jobs he arranged for them (with aggregate pay totaling about €1 million).

If Marine Le Pen, the FN leader and standard bearer, were to win election in May (oddsmakers now give this about a 1 in 12 chance), her victory might conceivably snowball into a similar sea change in the National Assmebly election in June.  Were the FN to win control of the legislature too, the party says it will leave the euro and re-institute the franc as the national currency.  In addition, it intends to, in effect, default on €1.7 trillion in French government bonds by repaying the debt in new francs, at an exchange rate of 1 Ffr = 1 €.

Improved prospects for Ms. Le Pen–plus, I think, President Trump demonstrating he means to do his best to keep all his campaign promises–have induced a mini-panic in the market for French-issued eurobonds.  Trading at a 40 basis point premium to similar bonds issued by Germany as 2017 opened and +50 bp in late January, they spiked to close to an 80 bp premium last week.

my take

At this point, the conditions that would trigger a French exit from the euro and its refusal to honor its euro debt instruments seem high unlikely.  Still, the possibility is worth thinking through, since the financial markets consequences of Frexit would likely be much more severe than those of Brexit.

More tomorrow.