European stock markets opened the week with caution, following a significant sell-off last week driven by rising political risks in France. The French CAC 40 index showed timed gains of 0.2% by 11:00 CET on Monday, following a 6.2% drop the previous week, marking its worst weekly decline since the Russian invasion of Ukraine in February 2022 and wiping out its gains for 2024.
The banking sector was significantly affected, with Societe Generale and BNP Paribas dropping by 14.5% and 12.2%, respectively, last week. These declines triggered a ripple effect, causing the Euro Stoxx Banks index to fall by over 8%. However, on Monday, the banking sector benchmark attempted to rebound by rising 0.4%.
The political crisis in France, sparked by the unexpected results of the weekend's European elections, is heavily weighing on European markets and causing a widening of yield spreads between government bonds within the eurozone. Although the yield on 10-year French OATs remained stable at 3.15%, its spread versus German Bunds closed the week at over 75 basis points, the highest level since July 2017 when the potential risk of a 'Frexit' was priced in due to Marine Le Pen's election prospects.
Over the weekend, five European Central Bank (ECB) officials told Reuters there are no plans for emergency purchases of French bonds amid the political unrest in Paris, emphasising that it is up to French politicians to calm the markets through prudent economic policies.
A recent poll by Ifop for Le Journal du Dimanche, dated 15 June, indicates Marine Le Pen's National Rally party leads with 35% support, followed by the left-wing coalition of the New Popular Front at 29%, which has strong backing among 18-24 year olds. This scenario suggests a shift towards extreme parties compared to centrist and market-friendly parties, with President Emmanuel Macron's Together coalition currently third with 19% support.
On Monday, Citi's global equity strategists downgraded European equities to 'neutral' from 'overweight', citing increased political risks following France's decision to call a snap parliamentary election.
Goldman Sachs equity analyst Lilia Peytavin commented that if the far-right party's 2022 programme were implemented, market reactions could be severe. However, she also suggested that the measures might be more business-friendly than expected, as the far-right will aim to secure the 2027 presidential election, potentially surprising markets positively.
Peytavin noted that the elections of Donald Trump in the US and Giorgia Meloni in Italy had elicited unexpectedly positive market reactions compared to pre-election expectations.
Goldman Sachs added that French international stocks, such as Remy Cointreau, L'Oreal, LVMH, Dassault Systemes, Sodexo, Michelin, Pernod Ricard, EssilorLuxotica, and Publicis, would likely be the least affected.
"At the EU level, despite the outgoing majority maintaining control, the focus of the next legislature will shift from the green and digital transition to more industrial and political themes. We can anticipate a move from a liberal approach to more interventionist public involvement in the economy," wrote Intesa Sanpaolo analysts Pasquale Lodato and Luca Cigognini.
