While French voters didn’t shock markets by sending both presidential candidates from the far left and far right to the decisive second round in two weeks, investors did not get their dream lineup: A contest between Emmanuel Macron and Francois Fillon, the two most pro-market candidates.
Instead, the runoff between the National Front’s Marine Le Pen and Macron — the individual possibility to which the market assigned the highest single probability — involves a clear battle between a commitment to shake the economic system and one to create change within the existing structure. And this first-round vote doesn’t signal, at least yet, the end of the anti-establishment phenomenon.
Although counterfactuals are inherently tricky, let’s start the market analysis by discussing what will not happen.
Risk assets and the spreads on French and peripheral bonds will avoid the volatility selloff that they surely would have experienced had Le Pen and Jean-Luc Melenchon, a far-left candidate, made it to the second round. With that, there will be significantly less risk of destabilizing capital flows out of the French banking system. At the same time, markets will not experience the extreme joy that would have resulted from the opposite outcome, a Fillon–Macron second round.
The initial market reaction to the actual outcome of the very competitive first round should be positive for risk assets and the euro, though not necessarily ebullient. The extent of the rally depends on what the final numbers say about the strength of Le Pen’s showing, especially now that both Fillon and Benoit Hamon, the Socialist Party candidate who was badly defeated, have rushed to throw their support behind Macron for the May 7 runoff.
Looking ahead, and based on the widespread conventional view that a majority of the French electorate will again seek to vote for any alternative to the National Front, most market participants will likely assume that, when push comes to shove, Macron will be elected president — even though he lacks a political party and now faces the prospect of being pressed much harder on policy positions and past actions.