April 25, 2017 / 11:11 AM / 3 months ago

UPDATE 1-"Au revoir, Marine": French bonds hold gains as markets rethink election risk

4 Min Read

* French 10-year yields briefly dip under Monday's low

* French/German yield gap lowest since November

* Markets pricing out Le Pen risks

* Bond supply pressures broader bond market

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr (Adds quote, updates prices)

By John Geddie

LONDON, April 25 (Reuters) - France's government bond market on Tuesday held on to gains made immediately after the first round of the presidential election, indicating investors see little risk of anti-euro Marine Le Pen scoring winning the final vote.

Far-right Le Pen is lags centrist Emmanuel Macron, by around 20 points in opinion polls before their run-off on May 7.

France's benchmark government bond yield briefly touched 3-1/2-month lows on Tuesday while the gap between the French and German equivalents was its smallest since early November.

"Markets turn the page on Le Pen risks already," Commerzbank strategist Rainer Guntermann, said in a note titled "Au revoir Marine".

French debt withstood pressure seen in other euro zone bond markets, where yields in secondary markets were rising because of a large debt sale by the euro zone bailout fund EFSF. Yields tend to rise during debt sales as investors make room in their portfolios for the new supply.

Confident

French 10-year yields briefly dipped to 0.75 percent on Tuesday morning, slightly below the 0.76 percent level breached Monday, but by 1030 GMT were 1 bps higher at 0.77 percent. Yields fell by 10 basis points on Monday.

The gap between French and German equivalents dropped to around 40 basis points, its lowest since early November. German yields were 4 bps higher on the day at 0.38 percent.

Strategists at ING said some political risk was baked into the spread before the final vote, which they calculate at around 10 basis points.

In what appeared to be an attempt to broaden her appeal to voters ahead of the final round, Le Pen said late on Monday she was taking "a leave of absence" from leading the National Front party (FN).

But two defeated candidates - conservative Francois Fillon and Socialist Benoit Hamon - did not even wait for Sunday's final count to urge their supporters to rally behind Macron.

France's outgoing president, Francois Hollande, as well as Prime Minister Bernard Cazeneuve and former prime minister Manuel Valls have also backed Macron.

The far left's Jean-Luc Melenchon, who got 19.64 percent on Sunday, has refused to say who he will back in the run-off. He has been a fervent opponent of Le Pen for years, but her anti-establishment, anti-globalisation stance could resonate with some of his voters.

"If you look at the various market indicators, we see a roughly 85 percent probability of Macron being elected. The market is quite confident about the outcome and the polls were right," said Geoffroy Lenoir, head of euro sovereign rates at Aviva Investors in Paris.

But other fund managers remain cautious.

"On paper, the result of the final round of the French election now looks to be a foregone conclusion," said David Zahn, head of European fixed income at Franklin Templeton. "But if we've learned anything from recent political events, it's to expect the unexpected."

For Reuters Live Markets blog on European and UK stock markets see reuters://realtime/verb=Open/url=http://emea1.apps.cp.extranet.thomsonreuters.biz/cms/?pageId=livemarkets

Editing by Robin Pomeroy

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