The results of the second round of French elections on 7 July offered a surprise in terms of the ranking of the three main groups – New Popular Front, Ensemble and National Rally (in that order). France now faces a hung parliament in which no single party or coalition has an absolute majority.
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Who is to govern France?
The results of the legislative elections are only the first step in a process that may now take longer than usual. The make-up of the National Assembly has changed and a new equilibrium will have to be struck. For now, investors seem convinced that a ‘Great Coalition’ – essentially a centrist one – will take shape.
However, it is far too early to judge whether such a solution is viable, or whether it would withstand major parliamentary decisions, such as the vote on the budget in the autumn.
For now, outgoing Prime Minister Gabriel Attal (whose resignation was refused by President Macron) is to stay on in a ‘caretaker’ role to manage immediate current affairs.
Investors digest the news
On 8 July, after some hesitation in the face of the surprise result and statements made on the election night, French equity and government bond (OAT) markets bounced back.
The spread between 10-year French OAT and German Bund yields narrowed slightly (it had been at 65bp at the close of trading on 5 July after a recent high of 82bp on 27 June; see Exhibit 1)). Eurozone equities (including the French CAC 40 index) rose and the euro recovered. It should be noted that the EUR 10.5 billion auction of long-term OATs on 4 July had gone well given the political uncertainty.
The summer could well be turbulent in the headquarters of the various parties and rhetoric and wrangling could fuel market volatility. Front of mind for many investors when they return from their holidays could be the timetable of rating agency action on France’s debt.
The DBRS agency is first on 20 September. Fitch and Moody’s will follow in October and Standard & Poor’s, which downgraded France’s sovereign rating at the end of May, will provide an update at the end of November. For these four agencies, the outlook assigned to France’s sovereign rating is currently ‘stable’.
Equities continue to rise
Political uncertainties in France – and in the US, where a possible withdrawal of Joe Biden from the presidential race has occupied minds since the television debate on 27 June (see Exhibit 2)– failed to prevent equities from making progress last week.
In the US, the S&P 500 index ended a four-day week at an all-time high, with a weekly rise of 2.0%, while the tech-heavy Nasdaq composite rose by 3.5%. Adjusted expectations for the US Federal Reserve’s monetary policy could be the explanation.
On the other side of the Atlantic
In the bond markets, the yield on the US 10-year T-note fell by 11bp between Friday 28 June and Friday 5 July to end at 4.28%, while the 2-year yield fell by 15bp in the same week, to 4.60%. There are several factors behind these moves: Less-solid-than-expected economic data reflecting a slowdown in activity; Fed Chair Jerome Powell’s comments at the ECB Economic Forum in Sintra; and the resulting rise in the probability of a US rate cut in September.
On 5 July, the probability of a cut had risen to over 70% from 47% a month ago. Futures markets are now pricing two 25bp cuts this year.
The fall in yields accelerated on Friday after the release of the US jobs report.
Slowdown signals
The June jobs report showed net job creations in line with expectations (206 000 vs. 190 000 according to the Bloomberg consensus) but with sharp downward revisions totalling 111 000 to the figures of the previous two months. Those figures had surprised to the upside.
With the latest numbers , it appears employment momentum in the US is starting to show signs of running out of steam. In the second quarter, the private sector created an average of 150 000 jobs per month compared to 200 000 in the first quarter. In addition, the unemployment rate continued to rise. It stood at 4.1% in June (from 4% in May, 3.9% in April and 3.8% in March).
If confirmed, such data would be quite a strong signal of slowing activity. Another indicator last week showed initial jobless claims had reached their highest since August 2023 (four-week moving average; see Exhibit 3).
The results of the ‘historical’ purchasing managers’ survey (ISM – Institute for Supply Management) disappointed expectations for the manufacturing sector (index at 48.5 against 49.1 expected) and even more so in the services sector, where the index fell from 53.8 to 48.8. The survey details showed weaker activity, new orders and employment.
Where the Fed remembers its mandate is ‘dual’
In his talk at Sintra, Jerome Powell spoke of signs of disinflation, adopting a somewhat more dovish tone in his message compared to his 12 June press conference. Then, Powell had recalled that the Fed remained ‘very attentive’ to inflation risks and would examine more data before acting.
At Sintra, he said the labour market did not seem overheated, a statement corroborated by the recent data. The Minutes of the June Federal Open Market Committee (FOMC) meeting supported Powell’s statements.
The FOMC now appears more focused on factors that may slow inflation than on waiting for ‘more data’. Given the persistence of services inflation, wage increases seem to be the preferred indicator, which brings us back to employment.
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