Photo: Enguerrand Artaz © LFDE
By Enguerrand Artaz, Strategist, La Financière de l’Échiquier (LFDE)
The recent surge in the yield gap — or spread — between France and Germany, much discussed in recent weeks, has been accompanied by a new phenomenon: the contagion of tensions across the rest of the eurozone. Until now, other European assets had remained largely immune to the stress surrounding France’s fiscal situation. But over the past few days, while equity markets came under pressure, spreads on many countries have widened. The 10-year yield spreads versus Germany for Italy and Greece have increased by nearly 30 basis points (0.3%), while Spain’s spread widened by 15 basis points. Even Portugal’s spread has risen, despite the country arguably having one of the eurozone’s strongest debt and deficit trajectories.
A reminiscence of the 2011-2012 sovereign debt crisis, this pattern also reflects a near-Pavlovian market reflex: when political issues multiply in Europe, investors — especially international ones — step back and wait. Admittedly, beyond the French case, several European countries are facing important political developments, such as Germany with recent regional elections, and Spain, which has just announced early elections on 29 November. Not to mention Italy, where parliamentary elections will be held by the end of 2027. These different cases, however, appear to carry far less weight than the upcoming presidential election in France.
In Germany, Chancellor Merz’s position has unquestionably been weakened by the CDU’s recent defeats. Even so, it seems unlikely that the governing coalition will break apart before the 2029 election. Given current polling, early elections could produce a political landscape that would make any new alliance highly difficult. The parties in power therefore have much to lose, precisely as public investment plans are finally beginning to pick up pace. In Spain, where the economy is in a strong growth phase, the country will soon have to contend with the end of the European transfers it has benefited from in recent years, and thus show a little more budgetary discipline. A solid government majority, freshly (re)elected, will be needed in this environment. It is therefore hard to see these elections as a major economic risk. Finally, in Italy, the opposition is fractured for now, and the recently passed electoral law could strengthen the current Prime Minister’s leadership over the Italian right. The probability that Italy will continue to enjoy the longest period of government stability in the post-war era is therefore high.
In light of these factors, Europe’s political risk — and the associated economic and budgetary risks — appears overstated, while contagion beyond the French case seems largely unjustified. For investors, that may in fact be good news. Indeed, this exaggerated spillover to the rest of the eurozone could, if it persists, prompt a swift response from the ECB, which is much more sensitive to this risk than to the individual situation of any one country. At this stage, the absence of an explicit central bank “put” — a protective backstop — is one of the sources of market unease. An ECB intervention, even through words alone and without triggering the anti-fragmentation mechanism, could reassure investors and allow European assets to rebound. On the other hand, the recent sequence is creating opportunities to return to sectors or themes that had performed well and on which positioning may have become a little too consensual, such as the banking sector.
The French situation is, of course, one to watch closely, all the more so given its systemic importance for the eurozone. That said, investors need to take a step back from a European situation that is far from being as poor overall as it may appear.
Disclaimers : These LFDE data and opinions, as well as the sectors mentioned, are provided for information purposes only and therefore do not constitute an offer to buy or sell a security, investment advice or financial analysis. Past performance is not indicative of future performance and is not constant over time.
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