(Bloomberg) -- For a week that saw the collapse of the French government, it was a good time to be an investor.
The CAC 40 Index of stocks is about to cap its best week in two months with a 2.8% advance. Bonds rallied, pushing spreads to the narrowest level in two weeks. And the euro has stopped plunging, finding a floor around $1.05.
The moves show the panic that has gripped markets is starting to dissipate as investors consider next steps for what’s been an extremely turbulent chapter of French politics. It’s also an indication that in a depressed market, it doesn’t take much for prices to bounce.
Some speculators were drawn in after Marine Le Pen, leader of the far-right party, said it’s possible for the government to deliver a budget within weeks. President Emmanuel Macron’s promise to serve out the rest of his term also offered reassurance. Traders pointed to short sellers covering their bearish equity positions as part of the sharp advance in stocks.
Subscribe to the Bloomberg Daybreak podcast on Apple, Spotify or anywhere you listen.
“It’s kind of a relief rally,” said Gilles Guibout, head of European equities at AXA IM. “The fact that nearly all the stocks of the CAC 40 are rising strongly suggests that these are investors taking broad bets on France, rather than stock picking the dip.”
The CAC 40 jumped 1.5% on Friday, outperforming other European markets. It’s rallied for seven straight days. Part of the optimism was also driven by speculation that tax hikes, which had been proposed by Prime Minister Michel Barnier, won’t pass parliament.
In the bond market, investors are also starting to feel more confident. The shrinking gap between yields in France and Germany is a sign that there’s less worry about the country’s political instability.
The spread between 10-year bonds shrunk four basis points on Friday to 74 basis points — or 0.74 of a percentage point — the narrowest since Nov. 20. Last week, it reached 90 basis points, the widest since the 2012.
What Bloomberg Strategists Say:
“French debt is clearly not in favor – that can be seen by looking at the decline in the asset-swap spread – but there is no strong fundamental case that they are a sell or a buy at the moment.”
— Simon White, Macro Strategist, London
“The problems of the heavily indebted French sovereign are well known and, we believe, fully reflected in prices,” said Christoper Jeffery, head of macro asset allocation at LGIM.
He’s been buying French sovereign bonds recently. Vanguard Asset Management has been reducing its short position in French bonds, according to Ales Koutny, head of international rates at the firm, which has $1.8 trillion in actively managed assets.
With the French government still in shambles and no indication that the three fractured parties will come together to accept a new leader, many investors said it’s tough to be bullish. Peter Goves of MFS Investment Management said he expects bond spreads will likely stay wide.
“Should PM after PM after PM continue to fall, further questions are likely to be raised about how to navigate the political impasse,” said Goves, the head of developed market debt sovereign research. “For now, it’s about who the next PM will be and what that entails.”
One risk is that the new budget might involve adding more debt to an already heavily burdened country and possibly spook investors. Le Pen said her party could agree on a plan that narrows the deficit more slowly.
While the situation has some parallels to the European sovereign debt crisis, the consensus so far has been that France’s situation isn’t as dire. And so far, there’s been no sign of the trouble spilling into other countries.
“Even though France may have little credibility in Europe when it promises to cut spending, we think comparisons with Greece are not valid,” wrote Matthieu de Clermont, senior fixed income portfolio manager at AllianzGI in Paris. “We do not expect a genuine financial crisis, and the risk of a default is not part of our scenario planning.”
--With assistance from David Goodman, Sagarika Jaisinghani, Farah Elbahrawy, Constantine Courcoulas and James Hirai.
(Updates with comments and context throughout.)
©2024 Bloomberg L.P.