Strategy: The great Le Pen scare – how could markets react afterwards?

Long and difficult road to Frexit even if Le Pen wins

Although data from the euro area this week painted an upbeat picture, with strong manufacturing PMIs and German ifo readings, French government bonds and the EUR remain under pressure, as investors’ remain focused on the upcoming French presidential election and the risk of a Marine Le Pen win. According to recent polls, it is still most likely that either the independent candidate Emmanuel Macron or the Republican François Fillon will become France's next president (see chart top right). However, there is a significant risk the Front National (FN) candidate Marine Le Pen, who has threatened that France will leave the EU and the euro if she is elected, will win the presidential election. Nevertheless, even if Le Pen is elected, the road to an actual ‘Frexit’ is long. Whether Le Pen can or will actually hold an EU/euro referendum will depend largely on FN’s performance in parliamentary elections in June and support from her chosen prime minister. In our view, it is still questionable whether the public would vote in favour of leaving the EU/euro in such a referendum.

What if? Risk-off and weaker euro if Le Pen is elected president

In terms of short-term market reactions following a Le Pen win (not a ‘Frexit’, which would have far more severe market implications), we expect the ECB to use its existing QE flexibility to support countries vulnerable to financial spillover, especially in the periphery, whereas support for France could be limited. We expect to see a knee-jerk market reaction with a broad-based risk-off move triggering EUR periphery spread widening relative to France, a Bund rally and curve flattening, although the exact spread impact would depend on the ECB response. For the Nordic markets specifically, we are likely to see safe-haven inflows, with NGB/SGB/DGB ASW spreads widening.

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