I am not going to pretend to be any type of French political expert. But sometimes, not being so immersed can give you a different perspective. I put on my CArock, the Unfrozen Caveman Curve Advisor, hat on to give you some non-standard takes:
- The market reaction should be interesting on Sunday. I discuss a few trade thoughts in the next section.According to the betting markets, the following are the odds of the various Final Two pairings. Yes – I realize the bookies have had a terrible 12 months with political odds. But, just because something is 10 to 1 doesn’t mean it can’t happen! (Multiple times, eh hem) But the bookies and bettors should have learned something from those elections. These probabilities give us a reasonable base to work from. Le Pen has an 81% chance to make the Final Two. Macron has a 72% chance. Interestingly, Macron is a heavy favorite to win the runoff. Everyone else would be an upset, which is different from what you hear from the polls, where it’s allegedly a 4-way dead heat. Imagine that! People who have a financial vested interest in a close tight race (pollsters and media) reporting that it’s a close tight race.
- 88% of the time, we will have an anti-EU candidate in the runoff. There are six possible “Final Two” pairings. Only one of the six final pairings has a pro-EU vs pro-EU candidate (Macron vs Fillon), and that is only 12%. Similarly, only one of the six final pairings has an anti-EU vs anti-EU final pairing (Le Pen vs Melenchon), and that is only 9%. In any event, if you are nervous about the future of France and the EU, it’s not likely that will get resolved today.
- 79% of the time, we will replay the current scenario of pro-EU vs anti-EU for the next two weeks. Keep in mind this is only round 1 of the elections. Since no one will get a majority of the vote, we will have another election in two weeks. Be prepared for a replay of two more weeks of market uncertainty, since that is most probable. The market direction during the purgatory will probably focus on the head-to-head odds of the final pair, plus what the gorilla wants to do.
- Just stop it with the Le Pen doomsdaying. I’m not saying she is the best candidate or has the best thought-out plans. But I can understand Marine Le Trump. The EU’s principle of “free movement” just means a lot of cheap labor coming in for France, and little recourse for the lower middle class. Overlay that with the fact that one of France’s top industries is tourism, and there is nothing worse for business than a bomb going off every few weeks. Let’s say Le Pen wins. She’s going to call a referendum on the EU and have the people decide. Apparently 2/3 of the French love the Euro, so it’s probably not going to pass. But let’s say it does. If > 50% of the population thinks the situation is that terrible to want to leave the EU, why would people (the academics and leaders in ivory towers) think the EU is such a great idea? I don’t know much about the current advances in modern government (because I am an unfrozen caveman), but even back in my cave clan days, the government was supposed to represent and work for the people. If the referendum should pass, that is what the people want. Period.
- The heads of the EU are completely out-of-touch. If my eldest son came up to me and said, “There are some problems with this family. I’m leaving.” My main reaction wouldn’t be, “you owe me 60 billion euros.” Then 6 months later my second son starts mulling over leaving. Then 9 months later, my eldest son leaves. And now my wife is mulling over filing for divorce in the next few weeks. How can anyone be that tone deaf?!? What is it going to take for the EU to realize something IS wrong, that this is not just a childish “populism phase” and that something needs to be done to improve the quality of the “family”? Is this what happens when you go on too many boondoggles in the Alps and ship your kids off to boarding school? You just lose touch? In my Unfrozen Caveman view, it seems obvious to me that all it would have taken is some kind of relatively minor immigration fix and the family could have been happy again. Roughly half of the citizens in several major countries think what is going on with the EU is terrible. What the UK, Italy and now France are saying via “populism” is that they want an opportunity to take care of the lower middle class in their own countries before those of the entire union. This is not unreasonable and not a non-negotiable point. “Free movement” is one of the main principles of the EU, but there is always a middle ground. Especially when three of your four largest members think uncontrolled “free movement” sucks (Cro-Magnon economics term). I can’t think of any other organization that is that deaf to its most important members. On paper, “free trade” and “free movement” are great concepts that should lead to a theoretically optimal state. Except if you happen to be in the bottom “half” of the socio-economic scale in a more developed country, your job is going to get crushed by the influx of cheaper labor from poorer countries, while you have nowhere to go. You could argue that consumers benefit from lower prices. But the absurdly large number of people who just got squeezed are going to be furious. People cannot be retrained that quickly. Some “long term beneficial” moves are best done phased in over a VERY long period of time. We are not living in some idealistic bubble – this is the real world.
In addition, generous social programs plus mobile immigrants/refugees (especially when not properly vetted) are a terrible combination. I would say the over/under on the number of people in the world wanting to move to a nice industrialized country with generous social programs is about 6 billion (out of the 7.5 billion world population). SIX BILLION people would love to migrate to France/UK/US/etc. So while it’s “admirable” that so many refugees were taken by the EU, the cranky old man in me calls this “letting in the sob story of the month” ahead of the other SIX BILLION people on the planet who want to get in. Oh, and there is a potential terrorism problem with a subset of these particular refugees. I can’t remember the last time an Asian (non-middle-eastern) or South American blew up anything after they immigrated. Just saying. Most of those folks have sob stories too – just not those that make the news. While immigration is a lot more than refugees, I do think the large refugee influx was the straw that broke the camel’s back.
Regardless of how “clueless” my Caveman views are, there is no question that if the EU wanted to stay together, they could have. They just need to listen and adapt. This is what good leaders do. There are still plenty of benefits to be gained from an EU with “limited free movement,” but by being rigid, the current EU leadership is now at the risk of getting nothing and having the EU implode. When was the last time a FX peg among countries (which the EU is) worked out anyway?
- There is life after the EU. 78% of the world GDP comes from countries not in the EU and they do fine. The World GDP is 3.5%, the EU GDP is 1.9%, and the French GDP is 1.3%. I’m not sure where the data is that shows France would have done even worse had they not forked over the ~$10billion a year to join the EU. .. the UK seems to be doing better since they left. As an outsider, I have to ask, “where’s the beef?” Am I supposed to assume that being part of the EU is a slam dunk net positive because a bunch of cloudy economists say it is in theory, when there is no empirical evidence?
- We saw with other European/US elections that the downside hype was larger than where the markets eventually settled. I suspect fixed income shorts may have covered to keep some powder dry, as this makes sense strategically. It seems to me the Frexit doomsayers are overplaying the narrative. There’s talk of bonds defaulting, political chaos, and economic chaos – pretty much the same idiocy that preceded the Brexit vote. There could be some short-term market chaos, but is probably going to be a self-induced injury. In the very long run, I don’t see it mattering if France decides to leave. Just like I didn’t think it mattered if the UK decided to leave. There is a chance the EU breaks up and the markets could go nuts in the shorter term. How long it lasts is the key question. In any event, even with an “anti-EU” winner, there’s a good chance France stays in the EU.
- I don’t think the French elections are going to have a large longer term follow through to the US economy. If the self-inflicted market volatility injury causes a severely hemorrhaging equity market, then there could be follow-through. But for Main Street, it’s not clear that France leaving the EU means that much. As I suggested for Brexit, it could just mean more opportunity for US firms that are ready to step in to fill in any voids. As I said last year, while there is a lot of worry and sadness in divorce, a divorce is not bad if you are a divorce lawyer, realtor, counselor, moving company or home furnisher. There are plenty of firms that can benefit from a separation. As with the UK, France could look to the US first to secure new trade relations post-Frexit.
- Since we went through this with Brexit, Italexit, and the US elections, I would think the markets will adjust more quickly. I would say that “fool me once… fool me twice…” line, but what does one say when the markets seem to be in a Groundhog Day loop ahead of every election? “This time it’s different because the fate of the EU is at stake.” I acknowledge the potential market volatility, but it’s not clear to me if the current rigid EU is a net positive or negative for the more developed European countries. If the benefits aren’t clear, does it matter in the long run if it stays or if it goes?
 I highlighted in yellow the most likely pairing, in green the most market-friendly pairing and in orange the most market-unfriendly pairing. I normalized the odds to sum to 100%, since no one else has a realistic chance (everyone else is 500 to 1 to win the final election).
 I have some concerns for the UK since finance to the EU is such a large part of their economy.
 If anything, I think it’s more important for the UK to remain than France, since the UK is so dependent on European banking.