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Time for a short position on French equities?


French equities have had a bumpy ride since the start of this year.

As life was starting to get back to a post-Covid normal, messy elections coupled with the war in Ukraine and the consequent surge in inflation have eroded the CAC index causing it to drop nearly 18% since the start of the year.

Although President Emmanuel Macron eventually won the second round of elections, he had to contend with the growing strength of the far right and the loss of his parliamentary majority, which will make domestic politics a much harder affair over the coming months and years.

At the same time a new wave of COVID flooded the country, causing the number of infections to double in the space of a week. The emergence of new Covid variants will keep the wave going over the summer, with the peak expected in late July.

Like the majority of Europe, France has not been spared from the sharp increase in energy, petrol and food prices, worsened by the war in Ukraine and the sharp decline in consumer spending which followed. The French government has now revised down its forecasts for this year’s GDP growth to 2.5% from the previously forecast 4%.

This accumulation of pressures hit the worst banks, luxury goods companies and the utilities sector.

Shares in Credit Agricole, BNP Paribas and Société Générale have suffered losses after the election and continued to decline after the European Central Bank asked them to “recalculate” their capacity to pay dividends and buy back shares in light of a possible gas embargo that could trigger a sharp recession. The ECB said the eurozone economic outlook could become much worse.

Similarly, luxury goods makers started feeling the brunt of rising inflation in their key markets of Europe and the US while China’s go hard policy on Covid effectively snuffed out any hope of growth in the near term.

The three big names in this sector: Louis Vuitton parent LVMH; watch, bag and accessories specialist Hermes; and Gucci parent Kering, depend heavily on China sales. For Hermes and LVMH, China makes up between 26% and 27% of their total sales while in Kering’s case China accounts for over a third of the group’s total revenue. Kering bosses commented that while the fundamentals of sales in China are still in place and that there is strong appetite for European luxury goods from the wealthy Chinese, the lockdowns in the country’s two spending capitals Beijing and Shanghai had a strong impact on second quarter sales. Any resurgence of Covid could trigger further strict lockdowns which will make it difficult to shop for bread and milk, let alone a new pair of Guccis.

The third sector expected to face further pressure is power generation. The government is due to present its revised 2022 budget bill next week, which will likely contain measures aimed at alleviating the price pressure on consumers including a further cap on electricity prices. This doesn’t bode well for the country’s largest electricity provider EDF which already had to take a €8.4bn hit at the start of the year when the government forced it to limit price increases to 4%. EDF has lost more than a fifth of its market value since the start of the year.

While the CAC index is likely to remain fragile as we go into the third quarter of the year the one stock that is likely to be exempt from the decline is oil producer, TotalEnergies. With the war in Ukraine raging oil prices are set to stay close to historic highs and if anything could rise later in the year when the winter weather increases demand and distribution becomes more difficult.

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This article does not constitute investment advice. Make sure you do your own research or consult a professional advisor.

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