Article / 08 May 2017 at 10:10 GMT

Macro Digest: It's better to prevent than to cure — #SaxoStrats

Chief Economist & CIO / Saxo Bank
  • Macron win buys France time for reform, but populist remains strong
  • Incoming president must focus on Le Pen voters, anti-globalisation sentiment
  • Europe's major potential risk event lies not in France but in Italy
  • 'This is the end of the European rally': Jakobsen

Markets may welcome Macron's victory in France, but in Saxo Bank chief economist Steen Jakobsen's view, "the European rally is over". Photo: Shutterstock

By Steen Jakobsen

The French translate Erasmus' famous statement on medicine as "mieux vaut prévenir que guérir" – it's better to prevent than to cure. This morning, after pro-Europe candidate Emmanuel Macron's landslide victory in France, we would agree that Macron has prevented Marine Le Pen's populist nationalism from taking the reins in Paris. 

As for curing France's ailments, though? We're not convinced...

Selling the fact

We have been very positive on both the euro and European (mainly French) equities of late. Now, however, it's time to go neutral on both as Macron's real work will be vastly different from merely winning the presidency.

The outperformance seen in terms of European growth recently should also mean-reverse over the next few months to be synchronic with the US slowdown, returning focus back to our main macro story: the China and US-led contraction in the global credit impulse.

Trade idea: sell EURJPY at 123.80 with a 2x average true range stop (2 x 40 tics = 80 tics = 124.60).

Source: Citigroup, Bloomberg

Let us also take a look at the benchmark French CAC 40 equities index since end-March... clearly, France has benefited from its electoral choices.

CAC 40
Source: Citigroup, Bloomberg

While the incoming president may have won by a stunning 66%-34% margin, the fact that 9% of voters cast blank ballots shows that the country's political landscape is far from settled. 

Despite Le Pen's loss, the Front National clearly made major inroads and is set to become the largest opposition party after the June legislative elections (June 11 and 18).

French election
Source: Societe Generale, Cross Asset Research

A year ago, everyone expected a Hollande-versus-Sarkozy rerun; after that failed to materialise, centre-right candidate François Fillon was thought to be the safe bet. In the end, however, the vote went to a 39-year-old politician without a party!

Although the far-right was dismissed this time, one wonders what would have happened if the immigration flow had been similar to that seen in 2014-15, as the one lesson we can draw from the election remains that everyone is unhappy with the established parties.

Now the focus in France shifts to June's parliamentary election. It seems likely that president Macron will fall short of a political majority, hence the real work starts now.

The one thing that France needs, of course, is labour market reform. A 10% unemployment rate is too high to create sustainable new growth and for Macron to succeed, he needs to “help” Le Pen’s voters – the disenfranchised, the anti-globalisation crowd who are afraid of worse to come.

This is a formidable task, but Macron's timing is good. Europe has been through an “internal devaluation”, so labour market reforms and a focus on creating instead of preserving jobs should do wonders for France. 

If this fails, however, it could easily tip the scales for Le Pen in five years' time.

Last night's over-riding conclusion was that the old parties need to renew themselves. After all, 43% of French voters did not vote for Macron, and 60% of his votes came from voters whose first choice was someone else. While anti-immigration voices may have been muted, they are still very much present, and reform remains the only true catalyst for meaningful change in the next five years.

Market-wise, this is the end of the European rally. We came into this election convinced that Macron would win and believing euro assets were undervalued; this has now run its course.

Non-Europeans' mispricing of this event was big, but now we must turn our focus to Italy, which in my mind remains the largest event risk in Europe as an early election could unwind everything the Austrian, Dutch and French elections have just done. 

Europe remains fragile, but things are improving. The final test will be Italy, not Germany.

Europe's real test remains not at the Union's Franco-German centre, 
but rather in Rome. Photo: Shutterstock

— Edited by Michael McKenna

Steen Jakobsen is chief economist and CIO at Saxo Bank

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