Is it time for a short position in French equities?
French equities have had a bumpy ride since the start of this year.
As life began to return to post-Covid normalcy, a messy election coupled with the war in Ukraine and the resulting spike in inflation eroded the CAC index, sending it down nearly 18% since the beginning of the year.
Although President Emmanuel Macron eventually won the second round of elections, he had to deal with the rise of the far right and the loss of his parliamentary majority, which will make domestic politics much more difficult in the months and years to come.
At the same time, a new wave of COVID has swamped the country, causing the number of infections to double within a week. The emergence of new Covid variants will keep the wave going through the summer, with an expected peak at the end of July.
Like most of Europe, France has not been spared by the sharp rise in energy, oil and food prices, aggravated by the war in Ukraine and the sharp drop in consumer spending which followed. The French government has now revised down its GDP growth forecast for this year to 2.5% from 4% previously forecast.
This build-up of pressures has hit banks, luxury goods companies and the utilities sector hardest.
Shares in Agricultural credit, BNP Paribas and Societe Generale suffered losses after the election and continued to fall after the European Central Bank asked them to “recalculate” their ability to pay dividends and buy back shares in light of a possible gas embargo which could trigger a deep recession. The ECB said the economic outlook for the eurozone could get much worse.
Likewise, luxury goods makers have begun to feel the brunt of rising inflation in their key markets of Europe and the United States, while China’s hard-line Covid policy has effectively stifled any hope of short-term growth.
The three big names in the sector: Louis Vuitton parent company LVMH; specialist in watches, bags and accessories Hermes; and parent company of Gucci Kering, highly dependent on sales in China. For Hermès and LVMH, China represents between 26% and 27% of their total sales while in the case of Kering, China represents more than a third of the group’s total revenues. Kering bosses have said that while the fundamentals for China sales are still in place and there is a strong appetite for European luxury goods from wealthy Chinese, the shutdowns in the country’s two spendthrift capitals, Beijing and Shanghai, had a strong impact on second quarter sales. Any resurgence of Covid could trigger further strict shutdowns that will make it difficult to buy bread and milk, let alone a new pair of Guccis.
The third sector that is expected to face new pressures is power generation. The government is due to present its revised budget bill for 2022 next week, which is likely to contain measures to ease price pressure for consumers, including a new electricity price cap. This does not bode well for the country’s largest electricity supplier EDF which already had to collect 8.4 billion euros 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 stock market value since the start of the year.
While the CAC index is expected to remain fragile as we enter the third quarter of the year, the only stock likely to be exempt from the decline is the oil producer, TotalEnergies. With war raging in Ukraine, oil prices are expected to remain near historic highs and if anything could rise later in the year as winter weather increases demand and distribution becomes more difficult.