French Voters Bypass Le Pen, but Next Sunday it’s Déjà Vu All Over Again

Tom Cleveland

The fragile underpinnings of the European Union withstood one more attack from the voting booth, but in the case of France, there remains one more voting exercise on the seventh of May to determine if populist sentiments are truly in vogue on the continent. The notion that the Euro was destined for parity with the U.S. Dollar seemed remote over the past week, after French voters threw their support behind the more moderate candidate. The Euro gapped up on Monday’s opening by a full 170 pips and stayed at that level for the entire week, a level not seen since early last November.

Even Mario Draghi, the consummate impresario of the ECB, held his tongue, a feat for him, not wishing to overly influence the positive direction that events had taken in France. It is, however, too early to pop the champagne corks. Since none of the candidates achieved a majority, there will be a run off on Sunday, and you can bet that another strong Monday reaction will roil financial markets once again, more so for European equities and the common currency that supports them.

There is an old trading maxim that “gaps must be filled, sooner rather than later.” The question now is what kind of gap do we have with the EUR/USD pairing? Technically speaking, the true gap response on Monday is defined as the difference from Friday’s high, 1.0738, to Monday’s low of 1.0821, or a smaller figure of 83 pips. When all was said and done for the week, the Euro closed at 1.0864, a hefty rise of 126 pips, but will it hold? The longer the gap remains unfilled, the more bullish the expectations.

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What implications can be deduced from a current EUR/USD chart?


When one takes the long-term perspective, it is evident that the so-called bullish trend that appeared on Monday has actually been building for months. Friday’s close was just one more notch in higher highs after higher lows, the accepted definition in anyone’s book for a positive upward trend. If one looks well before the Trump surprise in November, it is also evident that a declining diagonal suggests that a day of reckoning may exist roughly three to four months out.

A symmetrical triangle is the technical term for describing the formation on the diagram, and the odds typically favor a continuation of the major trend that preceded it. If this technically derived conclusion is to play out, then the “gap” would be filled and parity may well be the next destination. Will the gap be filled sooner? The RSI indicator suggests that the Euro is overbought, although a visual trend line since November would also suggest that the Euro might have more room to run.

Short-term fundamentals, however, could significantly impact this reasoning. Caution is advised for the current week. Tensions will build to a crescendo until next Sunday’s election results are finalized. The ECB also has a meeting this week, but the general consensus has Draghi keeping his lips sealed once more, refusing to display anything that could resemble a hawkish tone. European equities have had a good run of late, and no one wants to divert these positive capital flows.

In the U.S., the Trump Team is trying their best to achieve a “win” to close out its first 100 days in office, but more delays in healthcare reform and infrastructure spending are a reality. Tax reform guidelines released on Wednesday did not exactly engender enthusiasm on any front, so the market continues to wait. The USD has improved against the Yen, a reflection seen not so mush as a change in safe haven status but a reaction to flows into U.S. Treasuries. The real action has been in the EUR/JPY cross, where the newfound strength of the Euro has exploded on the scene.

What is really going on in France behind the scenes?

First, we have the issue of French deficits, as depicted below:

French Budget deficit

The EU treaty contains a maximum threshold of 3% of GDP, as an early warning sign that structural reforms must be enacted in order to return to acceptable levels. The road since the Great Recession has been long and hard, but estimates are that the deficit target will once again raise its ugly head. Reduced spending by the government will entail something on the order of 120,000 job cuts, a highly unfavorable measure that will seriously impact the youth of France.

Emmanuel Macron, the moderate candidate, is struggling with how he will address the issues facing France. Per one informed source: “There is nothing in his platform, which would suggest that he will manage to tackle France’s economic problems, or help in any way with producing some much-needed EU reforms. The two main problems, namely the economy and immigration will continue to produce mass-dissatisfaction with the current elites in power in France and in the EU.”

The issues facing the French populace are no different than those in many other developed economies, namely a weak economy, high youth unemployment, and uncontrolled immigration. Terrorist attacks have hampered the tourism industry, as well, a major component of the country’s domestic GDP output. Despite the lack of clear solutions for the problems at hand, it is difficult to believe that voters will turn toward complacency when the next ballot on Sunday is placed before them.

The youth of France have a definite ax to grind. The following diagram is compelling:

EU Youth Unemployment
France may be better than Italy and Spain, but 26% is not a statistic that will curry favor at any ballot box. Trying to solve this issue while also having to tackle the budget deficit mismatch will be disconcerting for any candidate, but anger seems to be the recipe for success for the Far Right. Analysts do not believe that populist views can sustain their momentum in countries like the Netherlands and Germany, but these two nations have managed to be the top performers in the region, as depicted on the chart.

It also does not help that analysts firmly believe that an economic downturn is a real possibility over the next twelve months. Even if that timeline is extended, the current economic cycle has already reached a decade, and recession models are beginning to point to 2018 as a decisive turning point. France and the EU are not out of the woods, so to speak, and the major question looming is how long will Germany put up with the cloud of complacency that enshrouds its EU companions. Is a “Gr-exit” in the making?

Perhaps, we are getting ahead of ourselves. There remains an election process to complete on Sunday. Pundits do not expect Le Pen to recover: “Unless a dramatic event will shift the current electoral trend, Emmanuel Macron will become France’s next president after next month’s second round election. Macron was the system’s last card. If he will fail to resolve most of France’s and to some extent EU’s deep problems, this will be a defeat of the EU.”

What are the views held by Draghi and his ECB banking companions?

The economic picture in Europe continues to gradually improve: “Euro data this morning shows eurozone confidence was stronger than expected in this month, with the European Commission’s ESI measure jumping to 109.6 from 108.0 in March. It’s the highest level in a decade. The market was expecting a modest rise to 108.1. The pickup suggests that the eurozone’s economic recovery is gaining momentum this year, and will reinforce the ECB’s view that the outlook has improved.”

A portion of the improvement in this measure was due to households in the survey feeling that inflation will not be a problem going ahead, although the targets set by the ECB have yet to be realized. Analysts believe that the central bank will be less inclined to cut back on stimulus programs and resume a hawkish posture going forward. As for its current stance, ECB announcements over the past week were conciliatory: “As widely expected, the ECB left its key rates and asset purchase plan intact. It reiterated its forward guidance that rates will remain at present levels or lower.”

Draghi seems pleased with the gradual momentum displayed by the region’s economic progress, although the lack of movement of prices in a northerly direction is a concern. No one expects the ECB to announce any changes this week. Surveys now suggest that June may be month when rate shifts occur, with tapering finally kicking in by the first quarter in 2018. Draghi, however, has remained noncommittal when it comes to fixing what comes first – raising rates or cutting back on asset purchases.

There is pressure on the ECB, especially from major financial institutions, to eliminate negative interest rates. There is even talk that the central bank will actually pull back on QE purchases before the end of 2017. If you couple these tendencies with a weakening USD, due to Trump’s inability to enrich U.S. economic coffers, then one could make an argument that going long-Euro may be the trade of the year.

If a profitable long-Euro strategy soon becomes apparent to long-Dollar aficionados, there could be a rush to swap positions in a matter of nanoseconds. The French election could remove many of the perceived hurdles on the landscape. A rush to buy on the dips could ensue, and optimistic analysts are already forecasting a potential rise to 1.12 or 1.13 by June, if Macron emerges victorious.

Concluding Remarks

The EU and the Euro have dodged another bullet, this time in France, but there are plenty more bullets in the revolver that could lay low the latest experiment in European cooperation. Fear, however, has been replaced by cautious optimism, although the lack of viable programs to address mass dissatisfaction with gradual economic gains, rampant youth unemployment, and growing concerns over immigration continue to inflame populist notions of nationalism and, ultimately, secession.

In the meantime, the Euro has reached an upper diagonal boundary of resistance. There may be some pullback over the next week, perhaps, enough to backfill the “gap” in last Monday’s trading, but the belief that parity with the greenback is a done deal is far too speculative at this juncture. A symmetrical triangle formation, however, suggests that a day of reckoning may occur within 2017, but not within the ensuing quarter. Having said this conclusion, Europe is known for drama. Surprises are a real possibility in the coming months. Volatility is still biding its time, but selling in May and staying away may not be the best strategy over the summer months to come. Stay prepared for anything.

Risk Statement: Trading Foreign Exchange on margin carries a high level of risk and may not be suitable for all investors. The possibility exists that you could lose more than your initial deposit. The high degree of leverage can work against you as well as for you.

Tom Cleveland
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