French stocks are expected to face continued pressure from political risk in the coming weeks and months, with the impact being more pronounced in certain sectors, according to strategists at Goldman Sachs.

Recent Market Performance

Last week, blue-chip stocks on Paris’s CAC 40 index experienced their worst performance since March 2022, plummeting over 6%. This decline was triggered by the unexpected announcement of a snap election, causing market jitters over a potential far-right National Rally victory in the legislative elections scheduled for June 30 and July 7. Concerns about populist fiscal policies and the possibility of a “Liz Truss-style financial crisis” contributed to the sell-off.

Rising Borrowing Costs

In addition to the equity sell-off, borrowing costs increased, with the spread between French and German 10-year bond yields widening by 25 basis points. Goldman strategists anticipate that this spread will remain wide in the near term, maintaining pressure on French domestic stocks, particularly banks, which are highly sensitive to sovereign spreads.

Impact on Specific Sectors

Goldman advises investors to focus on defensive sectors such as healthcare amid the heightened political uncertainty. French domestic names like supermarket chain Carrefour, construction firm Vinci, and utility Engie are expected to be more vulnerable. Conversely, internationally oriented giants such as LVMH, L’Oreal, and Remy Cointreau may be less affected due to their global exposure.

Longer-Term Outlook

Goldman strategists suggest that a National Rally victory could initially harm French domestic stocks. However, if the party concentrates on securing a candidate victory in the 2027 presidential election, it might adopt more business-friendly policies than anticipated. There is also the possibility of a hung parliament and political deadlock, which could reduce the likelihood of a severe market reaction but still lead to wider sovereign spreads and prolonged pressure on specific domestic stocks.

CAC 40 Exposure

According to Sharon Bell, Goldman’s senior equity strategist, the CAC 40 index has only around 20% French exposure. While this is not negligible, the index has benefited from a favorable performance in recent years, with many companies having significant earnings outside France. Bell suggests that the recent sell-off of all French stocks might have been an overreaction, with the most vulnerable being small caps and domestic French names.

Strategic Recommendations

In light of the ongoing political uncertainty, Goldman Sachs recommends a cautious approach, emphasizing the potential benefits of investing in defensive sectors and internationally diversified companies. Investors are advised to monitor the political developments closely and adjust their portfolios accordingly to mitigate risks associated with the upcoming elections and broader market volatility.

FAQs

1. What caused the recent sell-off in French stocks?

The sell-off was triggered by the surprise announcement of a snap election and concerns over a potential far-right National Rally victory, leading to fears of populist fiscal policies and increased financial instability.

2. Which sectors are most affected by the political risk in France?

Banks and domestic-focused sectors such as retail and utilities are expected to be most affected by the political risk. Defensive sectors like healthcare are advised for investment amid the uncertainty.

3. How does the CAC 40 index’s exposure to French domestic markets affect its performance?

The CAC 40 has around 20% exposure to the French domestic market. While this is significant, many of the index’s companies earn a large portion of their revenue internationally, which can help cushion the impact of domestic political risks.

4. What is the longer-term outlook for French stocks if the National Rally wins?

Initially, a National Rally victory might harm French domestic stocks. However, if the party focuses on long-term electoral goals, it could adopt more business-friendly policies, potentially reducing negative impacts.

5. What investment strategy does Goldman Sachs recommend amid the current political uncertainty?

Goldman Sachs recommends focusing on defensive sectors such as healthcare and considering internationally diversified companies to mitigate risks associated with the political uncertainty in France.