April 18, 2017 / 7:49 AM / in 7 months

French borrowing costs nudge higher as election countdown gets under way

* First round of voting in French elections on Sunday

* Most unpredictable election in decades

* French/German 10-year yield gap close to six-week highs

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr

By Dhara Ranasinghe

LONDON, April 18 (Reuters) - France’s borrowing costs rose while Germany’s held near three-month lows on Tuesday, with the gap between the two close to six-week highs in a sign of unease just days before a first round of voting in France’s closely-watched presidential race.

Opinion polls suggest the election in the euro zone’s second biggest economy will come down to a final battle between independent centrist Emmanuel Macron and Marine Le Pen, head of the anti-European Union and anti-immigrant National Front.

However, the race has tightened with a surge by far-left candidate Jean-Luc Melenchon, which has put him neck-and-neck with conservative Francois Fillon.

While no polls have show Le Pen missing out on the run-off, to take place on May 7, they are now within the margin of error and any two of the four top candidates have a shot at qualifying.

It’s that uncertainty that is expected to keep French government bonds under pressure ahead of Sunday’s election, benefiting the euro zone’s benchmark and top-rated issuer --Germany.

“Investors are going to be very careful this week and clearly the only thing that’s going to be on their minds is what happens in France,” said Chris Scicluna, head of economic research at Daiwa Capital Markets.

“Macron will win if he can get through to the second round but the question is whether he will actually get there.”

France’s 10-year bond yield rose 2.5 basis points in early Tuesday trade to 0.93 percent, while German Bund yields were marginally lower at 0.18 percent and within sight of Friday’s more than three-month low of 0.16 percent .

That left the gap between the two at 75 basis points and not far from six-week highs hit last week around 78 bps.

The spread between short-dated French and German bond yields was at 44 bps - also within sight of six-week highs.

France’s presidential race, one of the most unpredictable in decades, is viewed as a key risk event for markets with investors cautious after last year’s shock Brexit vote and the unexpected election of U.S. President Donald Trump.

International Monetary Fund Managing Director Christine Lagarde told German newspaper Die Welt in an interview published on Tuesday that there is clearly rising concern about the French election outcome.

The jitters are also reflected in currency markets, where the cost of hedging against volatility in the euro over the next month against both the dollar and yen on Monday jumped to the highest levels since the results of Britain’s vote to leave the EU last June .

Bond strategists say European government bond markets are unlikely to stabilise properly until after the run-off vote.

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 Jeremy Gaunt.

Our Standards:The Thomson Reuters Trust Principles.
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