Frexit? No Longer a Dumb Idea…

After the Brits, the French are making the headlines, not for the best. The market is slowly pricing the possibility that a far-right movement (Front National) might win at the next presidential election.

The risk here is that such a vote might provoke a sharp market correction that could have global ripple effects, since France is the 2nd largest economy of the eurozone and has been at the core of the European project since the 50s – something the Front National is openly questioning by promoting the « Frexit ».

According to SocGen’s strategy team, this is how the French market might react if French government yield were to rise slightly:

Source: Societe Generale

The above table tells two different stories for French equities. Either growth accelerates and government bond yields stay low, then French equities will perform well. Or bond yield start rising significantly and if growth doesn’t accelerate enough, French equities go down.

Source: Societe Generale

At the moment, French equities are fairly valued while equity risk premium is slightly above its historical average.

SocGen’s model derives a 5.4% internal rate of return based on somewhat modest EPS growth (6-10% EPS growth per year until 2019e) and a 0.9% bond yield.