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Analysts have been keen to show in recent weeks that they’re not going to be caught out by political shocks this year, after being a little unprepared for the results of last year’s Brexit vote and US election.
Now JPMorgan – despite insisting that a Front National victory is less likely than betting markets suggest – has produced a quite thorough note examining what would happen to French bonds in the event that Marine Le Pen becomes France’s next president and then follows through with plans to pull the country out of the Eurozone. Big ifs.
Spoiler alert: they’d tank.
Ms Le Pen has promised to take the country out of the single currency area within six months, but JPMorgan warns that the process would be a little more complicated:
There is a very substantial cost involved in moving to a different currency, in terms of execution, legal uncertainty etc; this makes the UK’s attempt at leaving the EU a stroll in the park in comparison.
Expectations of currency depreciation, higher inflation and potential further restructuring would cause a sell-off in French debt that would make their recent woes pale in comparison. (On which note, read this.)
JPMorgan sees the yield on France’s 2-year debt hitting 10 per cent in the event of a Frexit. Yields rise when prices fall, and that would be the highest level since 1990.
Yields on the country’s benchmark 10-year debt, currently at 1.086 per cent, would jump to 5.7 per cent for the first time since 1997, before settling around 4 per cent after redenomination is completed.
As for who will be left holding the bonds at that point, the analysts expect foreign investors to take flight, with the new central bank “likely to have a role” in absorbing the flows.
In the case of France, we estimate foreign ownership ex QE at almost 60 per cent of the total, equivalent to >€1tn. Were the foreign investor response to match the 2011-12 Italy episode, with 1/3 of investors fleeing the country due to increasing sovereign concerns, the selling flow would amount to around €400bn. Fear of imposition of capital controls could easily exacerbate the pressure well ahead of any concrete action.