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Tuesday, July 09, 2024

France's Political Play: Strategic Moves Amidst Uncertainty

تم إعداد هذا المنشور من قبل سنشري للاستشارات

France's Political Play: Strategic Moves Amidst...
France's Political Play: Strategic Moves Amidst Uncertainty

Far-right or far-left party coming to power can possibly lead to decline in CAC 40 Index

In the face of ongoing political turmoil in France, President Macron faces a precarious situation. The 2022 elections left his alliance with only 250 seats in the National Assembly, forcing him to seek support from other parties to pass legislation. This constant need for alliances caused significant delays and complications, leading to situations where he had to push through critical reforms, such as pension changes, without a vote, and rely on the far-right National Rally for tougher immigration laws.

By June 2024, Macron decided to call for parliamentary elections, citing the need for a "clear majority" to ensure France can "act in serenity and harmony." However, this move is seen by his allies and opponents alike as a risky gamble. Four potential scenarios could unfold from these elections:

 

Le Pen’s party wins the largest share of seats

Current polling suggests the most likely outcome is that Le Pen’s National Rally and its allies will become the largest group, though they may fall short of an absolute majority. This result would effectively halt Macron’s economic reform agenda. While immediate economic impacts might be limited, the lack of further pro-business measures and changes to labour laws and professional training could hamper France’s long-term growth prospects.

Le Pen forms a government

If the National Rally secures enough seats to form a government, France would experience “cohabitation,” where the president oversees defense and foreign policy, while domestic and economic matters are controlled by the far-right. The implications of this scenario would hinge on how aggressively the party manages France’s fiscal constraints.

The far left outperforms

Though it is uncertain how the far left could outperform the far right, the unpredictability of the two-round electoral system means analysts haven't ruled out this possibility. If this occurs, the left-wing alliance would likely attempt to reverse Macron’s pro-business reforms, implement extensive new spending plans, and significantly increase the minimum wage.

Macron prevails

This is the least likely scenario, according to current polls, is that Macron’s party and its allies retain the largest share of seats. Even in this scenario, Macron would need to demonstrate responsiveness to demands for greater support for household incomes over business interests, thereby limiting his flexibility on public finance issues.

Strategic Recommendation

The CAC 40 Index is likely to underperform in three out of the four scenarios in the current political enviroment, with the only positive outcome for the index being if Macron's party comes to power. However, current polling suggests that Le Pen's National Rally and its allies are poised to win the largest share of seats. They are followed by the New Popular Front party, with Macron's party trailing behind, making this outcome highly unlikely. Therefore, the recommended strategy is to short the CAC40 Index, as many companies within it derive between 20% to 50% of their revenues from France.

Hedging Strategy

To hedge this position, it is advisable to invest in a basket of shares from Hermes, LVMH, and Schneider Electric, these companies generate less than 10% of their revenues from France and are thus less exposed to domestic political instability. LVMH, home to iconic brands like Fendi, Tiffany & Co., Tag Heuer, and Hermès International, the French luxury house, both target affluent shoppers naturally insulating themselves from inflation, slow consumer spending, and macro-economic headwinds. Meanwhile, Schneider Electric is recognized as a leader in energy management and digital automation leveraging AI technology to strengthen its position across the entire industrial value chain.

Past 10 years performance of CAC 40 Index vs Basket of stocks

Scenario analysis - Comparison for two different immediate past 6-month time frames

Favourable Scenario (Period: 6 months from 1st Jan 2024 to 1st July 2024)

Unfavourable Scenario (Period: 6 months from 1st July 2023 to 29th December 2023)

Note:
Holding cost and dividends are not included in the return calculations.
Total Return (%) * calculated assuming 2x leverage on $100,000, resulting in exposure of $200,000

It is essential to note that Pair Trading is not a risk-free strategy. The diffculty comes when prices of the two securities move contrary to the positions taken, resulting in losses. Thus, adhering to strict risk management rules is vital when dealing with adverse situations. Past performance is not indicative of and does not guarantee future results. Trading in markets may involve a loss of capital. The return calculation does not include the holding cost paid on the strategy and this could change in the future, impacting the strategy either positively or negatively. The returns do not consider the currency depreciation of the Euro. Investors will have to hedge the currency exposure separately.

In instances of tail-event risk scenarios, it's conceivable for both instruments to experience simultaneous declines in value.

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