French Stocks May See Relief Rally Despite Political Headwinds, JPMorgan Says

JPMorgan strategists believe that while France's political landscape remains challenging ahead of next year's elections, deeply pessimistic investor sentiment has created the potential for a relief rally in certain French-exposed stocks. The bank noted that difficult decisions are needed to stabilize the country's deficit, a process likely to be delayed by the upcoming vote.

Political and Fiscal Uncertainty

According to a note from strategists led by Mislav Matejka, little positive progress on France's fiscal situation is likely before the presidential and parliamentary elections scheduled for April-June of next year. The strategists see a probability of "further slippage" on the deficit in the interim and expressed concern that "the ability of whoever is in charge to deliver the necessary consolidation might be constrained" even after the elections.

This political uncertainty has weighed on French markets. However, JPMorgan suggests that the base case of a far-right victory, as indicated by current polls, may be an overly negative scenario that is already being priced in by investors.

The Case for a Cautious Rebound

Despite the headwinds, JPMorgan points to several factors that could support a recovery in French equities. The bank highlights that negative sentiment may have been overdone, creating tactical opportunities.

Key points from the analysis include:

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• Valuation: France's CAC 40 index has underperformed for three years, and its relative price-to-earnings ratio now sits at record lows.
• Positioning: French domestic stocks and banks have significantly underperformed the broader index and could see a "relief bounce."
• Catalysts: The likely passage of a budget in the next one to two months would be a "small positive," and the emergence of a unifying centrist candidate remains a possibility.

However, the strategists caution that these domestic-focused stocks are not "exceptionally cheap" and that their earnings do not yet price in an overly bearish macroeconomic scenario for France.

Strategist Outlook and Positioning

JPMorgan does not expect investors to "sustainably re-engage with French exposure" until the main political risks have passed. For the medium term, the bank's strategists favor being overweight non-French domestic exposure versus French exposure.

They did, however, flag a potential opportunity in CAC 40-listed companies that derive more than 75% of their revenue from outside France, where stock price and earnings performance have diverged sharply. The bank also stated that it does not expect French political risk to spread into broader Europe, citing that banks are in much stronger shape than during the euro crisis and that the European Central Bank serves as a "credible backstop this time around."