How Political Instability in Europe is Affecting Trading Sentiment

Unpredictability has been a primary characteristic of European elections, dictating market sentiment.

From the shocking result of Brexit, to the rise of right wing populist politics in the Netherlands and elsewhere and the specter of the upcoming French presidential election, Europe is going through a major political upheaval.

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For the first time, the main players in this political change in the eurozone are not fringe European countries, but those that represent the core, in particular Germany and France. The results of France’s election are going to have a direct impact on the ongoing viability of the European Union, an issue that’s looming large over the coming months and years in the face of formidable domestic political changes.

Yet aside from the upcoming French election being highly significant, what equally characterizes this election is its unpredictability. Most recently, political candidates cancelled their campaigning events for the first round voting that was to take place today in the wake of Thursday’s terror attack.

The underlying issues are primarily domestic issues, chief amongst them immigration and unemployment. Unemployment has played a strong part in the current political climate of France, which currently has 10% unemployment, with the proportion even higher amongst younger voters. The eurozone structure has long linked unemployment with immigration. These issues were key in the events leading up to Brexit and have given fuel to populist politics in the Netherlands.

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The Brexit decision has opened the door for other countries seeking to solve their domestic issues with anti-EU policies. Leading the charge is a string of extreme right wing candidates, Marie Le Pen of the National Front party in France notable among them. The April 20th terror attack on the Champs Elysee could well have put her campaign back into full throttle.

Calculated pessimism

Markets are responding to the instability with calculated pessimism. The rise of Le Pen has caused an increase in French bonds sovereign yield spreads, but the magnitude of the drop has not spread to other euro member bonds. Clearly investors are worried enough to look for a discount when buying French debt, but are not necessarily responding to the eurozone risk to the same degree. But, whilst yields are not impacted in the other constituencies, it is expected that investors will move out of bonds in core euro countries like Spain and Italy to purchase bonds in stronger EU countries like Germany.

This investor behavior represents the direct approach for those invested in individual EU countries. They are attempting to focus their investments on the country with the strongest underlying economy should the EU break up. But it is the very possibility of a breakup that represents the significant amount of interest for investors. Most of the investors will seek to exploit the instability by trading the euro itself, rather than segmenting the individual constituents.

Investors will be watching the political instability unfold in Europe with bated breath and their trading finger at the ready. The political machinations will create tension and volatility in the market, creating opportunities for profit. It is likely that financial volatility will be directly driven by the specter of the breakup of the eurozone and the expected financial fallout from a breakup. Investors will note the impact of Brexit on the pound as a case study for any other fracturing and will be looking for significant swings and volatility in the market around news of a breakup.

The outcome of the elections to France will be used to gauge the potential direction of the eurozone as a whole. Now that the politics of the core constituents of the eurozone are in play, investors will finally see how strong financial ties are within the already tenuous durability of the European Union.

This article was written by Adinah Brown of Leverate.

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