GBP should outperform EUR into the French elections - Nomura

Research Team at Natixis expects that the GBP should outperform EUR into the elections even if likelihood does not change.

Key Quotes

“We had been expecting EUR/GBP outperformance because of a more optimistic view on the ECB versus market pricing. But recent developments in French politics tell us it is a different story on how markets will now trade into the event risk with both a) European yield spread widening now leading towards EUR weakness versus GBP and b) added hedging flows from the event risk of the coming French elections. This requires the likelihood of the election outcome to remain at current levels for a Le Pen victory (roughly 35% or so). But as we saw with Brexit and Donald Trump’s election, even if the likelihood does not move too much, there is a risk that price action may be repeated, where hedging flows dominate price action with vols spiking into the event.”

“Once the event risk passes EUR/GBP should head back to the 0.85-90 range While our European economists believe European populism may have peaked, we cannot ignore the risk that the market will not see it that way and will look at what happened after the Brexit and Trump surprises and view it as worth holding event risk hedges here. As real yields in EUR and GBP suggest this move lower in EUR/GBP will continue it could also be added to the short EUR/CHF and EUR/JPY views we hold into the French elections. For the time being EUR/GBP should continue its “Le Pen trade” towards 0.83, but we would quickly reassess this if the likelihood of a Ms Le Pen win diminishes as the rally in real yields for EUR is likely to pick up significantly faster than GBP and drag EUR/GBP perhaps back to 0.85-90 range into the end of June.”