France’s fiscal reckoning: navigating opportunity amid political chaos

After a tumultuous few months which saw the appointment, resignation and re-appointment of France’s fifth premier in two years, the country was dealt another blow in the form of an unscheduled downgrade from S&P Global Ratings.

Initially appointed on 9 September, before resigning just 26 days later, Sebastien Lecornu was reappointed within the same week. Lecornu’s appointment followed the resignation of François Bayrou after a failed attempt to rouse support for €44 billion of spending cuts and tax hikes.

There has been a momentary pause in France’s political perma-crisis after Sebastien Lecornu survived a vote of no confidence by compromising on the pension reform that would see the retirement age rise to 64. 

While offering a reprieve, this compromise sparked the S&P’s move to downgrade the country’s credit rating from AA- to A+, as the suspension of pension reform casts doubt over France’s fiscal credibility. This follows Fitch Rating’s downgrade to ‘A+’ from ‘AA-’ in September, citing France’s high debt ratio, which it predicts will reach 121% of GDP in 2027, from 113.2% in 2024. The ratings agency also cited political fragmentation¹ as contributing to the country’s downgrade.

Successive governments have struggled to bring France’s unsustainable deficit, the largest in the eurozone, under control. French debt repayments are set to reach more than €100 billion euros by 2029, up significantly from €59 billion in 2024.

As a result, concerns over France’s fiscal situation have been driving yields on French government bonds (OATs) steadily higher. The spread over German government bonds (bunds) has widened, with French yields now comparable to those of Italy, Greece and Spain, countries much more troubled by the eurozone debt crisis in 2011.

Idiosyncratic opportunities

For bond investors, instability can equal opportunity.

Political risk has introduced a premium into French assets, and history shows that such dislocations can create attractive entry points. We have seen this dynamic play out in other markets such as Italy, the UK during the 2022 LDI-crisis, Portugal, and Spain, where political turmoil led to mispricing, and bond investors can step in to capture the value.

France’s current political and fiscal troubles are well known and a lot of the risk is priced into the sovereign market. As an active manager, we are able to assess whether negative sentiment has pushed the premium too far.

Currently, the additional compensation for investment in a French government bond index is in line with the compensation for investing in investment grade (IG) corporate bonds (as measured by the iTraxx EUR IG index). However, despite the ongoing difficulties currently facing the country, the French government has levers to pull in order to repay its debt, such as, for example, increasing tax receipts and reducing spending – none of which are options for a corporate.

Events such as this which spark market volatility and cause spreads to blow out versus other peers in the G7 can create an opportunity to invest and benefit from those spreads reverting back to levels prior to the period of political difficulty. The current spread levels could offer an attractive entry point, especially when compared to similarly rated corporates, and we believe the sovereign’s resilience and liquidity make its risk/reward profile attractive.