Investors back French banks over government debt

Investors are demanding a smaller premium to own the safest bonds sold by French banks than the country’s sovereign debt, underlining how the tumultuous presidential election is rippling through financial markets.

With the yields on France’s debt buffeted by the daily headlines generated from the fight to succeed François Hollande in the Élysée Palace, so-called covered bonds sold by lenders have become more attractive.

The €2.2tn covered bond market in Europe has long been a favourite of insurance companies and pension funds because the type of debt offers investors greater protection in the event of a default.

While the yields of some covered bonds, which are backed by pools of mortgages, strayed under sovereign yields in the past, the gap has widened this year because of anxiety that Marine Le Pen, the far right leader of the National Front, could win.

A €1.5bn BNP Paribas covered bond maturing in 2028 yields 0.77 per cent, while a €1bn Crédit Mutuel covered bond that matures in 2026 yields 0.65 per cent.

By contrast, the yield on the 10-year sovereign bond, which touched as high as 1.14 per cent late last month, is at 0.91 per cent.

“It happened from time to time at the very long end [of the curve], but since the start of the year we’ve had it in a more systematic way,” says Ralf Grossmann, head of covered bond origination at Société Générale. “That is really new; it’s the first this has ever really happened.”

The phenomenon of covered bonds yielding less than sovereign debt is familiar in peripheral European countries, but until this year it has been rarely associated with France.

That is changing given polls suggest Ms Le Pen, who has vowed to pull the country from the euro, is expected to get through to the final round of the election on May 7.

As well as providing buyers recourse to the underlining mortgage loans in the event of a default by the lender, analysts say they are less useful to traders as an easy barometer of the state of the election because they are less frequently traded in the secondary market.

“Covered bonds are simply less volatile in the secondary market — every poll that comes out from France reflects first of all in the government bond market,” said Joost Beaumont, an analyst at Dutch bank ABN Amro.

“As an investor, if you are worried about the outcome of the elections, you can argue it’s wise to switch out of the government debt into the covered bonds,” he added.

“Covered bonds have showed they are quite resilient at times of market turmoil”.

Prices for covered bonds have also been helped by the €212bn of purchases of the securities that the European Central Bank has made since 2014.

The central bank first began buying the bonds in 2009 to support eurozone lenders following the financial crisis.