EUR/JPY Forecast: Could test 110.92 if Le Pen comes out victorious in first round

The top five candidates in 2017's French election are - Francois Fillon (Les Republicains), Benoit Hamon (Socialists), Marine Le Pen (Front National) and Emmanual Macron (Independent) and Jean-Luc Mélenchon (Unbowed France).

As per the latest Ebale poll, Macron is seen winning the first round with a narrow margin over Le Pen. Macron is seen winning the second round as well. However, polls got it wrong when predicting the result of Brexit referendum and the US elections.

Markets are complacent

It appears that investors are under-appreciating the possibility of Le Pen or Melenchon winning the elections. Investors are ignoring the fact that much like in the US and UK, voters in France are driven by anti-establishment sentiments and anger over corruption, cronyism, national security and immigration policies.

This is evident from the Franco-German 10-year yield spread which stabilized around 73 points over the last few days before narrowing to 60 basis points on Thursday.

However, the options market, says otherwise. The risk reversals which measure the cost to investors of protecting against a sudden decline in the Euro fell to -4.3 earlier this week, the lowest level in more than five years. This suggests the investors are hedging for a potential sell-off in the EUR.

What if Le Pen wins the first round?

That would force markets to consider the possibility of Le Pen winning the second round as well. This means a gap down opening in the EUR pairs on Monday. The EUR/JPY pair could be the worst hit among the major pairs, given the risk-off in the financial markets would strengthen the demand for the Japanese Yen.

Expect a sell-off of unprecedented proportions if Melenchon comes out victorious in the first round, although the odds are very low.

Technicals - Potential for a sell-off to 110.90

Monthly chart

  • The bearish RSI divergence seen confirmed in late 2014 followed by a descending top formation suggests the bears remain in control.
  • Last month’s failure to breach the falling trend line and an inverted bearish hammer candle coupled with the bearish RSI only adds credence to the bearish view.
  • However, the recovery from the low of 114.85 seen this month suggests the sell-off has stalled at least in the short-run.
  • Nevertheless, the cross looks set to breach 115.38 (61.8% fib retracement of 94.114-149.787) and test 110.92 (127.2% fib expansion of Dec 2014 high - Apr 2015 low - June 2015 high).
  • The sell-off to 110.92 could happen next week if Le Pen/Melenchon comes out victorious.
  • Bearish invalidation is seen only if the pair closes above the descending trend line resistance seen today around 121.10.

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