French Bond Risk Gauge Stays Elevated as Yield Premium Over German Debt Briefly Tops 150 Basis Points

A gauge of French bond risk broke through a key level on Tuesday.

The yield premium on 10-year French government bonds over same-maturity German bunds widened past 150 basis points to 154 basis points, the largest gap since October 2.

Earlier this month, as political and fiscal pressures intensified, the spread reached 159 basis points at one point, prompting many investors to liquidate their French government bond positions.

Driven by the high cost of living, large-scale protests erupted across France last weekend, with public buildings, shops and restaurants attacked in multiple locations.

After authorities imposed stricter security measures including curfews, the protests have largely subsided.

Karen Ward, chief market strategist for Europe, the Middle East and Africa at JPMorgan Asset Management, said: "The bond market now has more choices when it comes to where to allocate capital. If you don't trust the government, company or industry issuing debt, you will demand a higher yield from them. That is exactly what we are seeing in France 鈥?bond investors have gained enormous leverage because they have other options."

France's debt burden has already exceeded gross domestic product (GDP), and its budget deficit is among the largest in the eurozone, meaning the government cannot simply please voters by increasing spending.

French government bonds fell on Tuesday, and even as the protests eased, the 10-year bond yield once again approached 5%.

More protests are expected later this week.

Rising German government bonds further pushed the French-German spread wider, with the 10-year German bund yield falling 2 basis points to 3.44%.

Some investors are speculating about whether the European Central Bank will take action to stabilize the bond market.

However, the market widely believes policymakers have little willingness to intervene, and they would prefer to let market forces push France toward the structural reforms needed to improve its fiscal position.

Olli Rehn, a member of the ECB's Governing Council, said earlier on Tuesday that all eurozone countries, including France, must control public finance deficits to ensure debt sustainability.

Jens Nordvig, president and co-founder of Vanda, said in an interview that this situation explains the current market tension, and that the rise of extreme political parties in both France and Germany has also made the eurozone's future crisis response prospects more uncertain.

Nordvig expects French government bond spreads to widen further.