Can the Euro withstand pressure against the Canadian Dollar as France’s political crisis spreads across the Eurozone?

• EUR/CAD slips as sentiment towards the Euro weakens amid political unrest in France.
• Renewed selling pressure on French bonds pushes the 10-year OAT-Bund spread towards 157bp amid budget worries and growing social unrest.
• Higher crude prices underpin the commodity-linked CAD as markets assess conflicting reports on US-Iran diplomacy.

Pressure on the Euro (EUR) keeps EUR/CAD on the back foot for a third straight day, with the cross trading near 1.5770 in Wednesday’s European session. Market experts caution that the fallout from France’s political crisis is spreading across the wider Eurozone, adding to the headwinds facing the single currency.

Why is France’s bond spread widening amid budget worries and unrest?

Renewed pressure on French bonds has driven the 10-year OAT-Bund spread higher, according to ING analysts, who describe it as “widening to 157bp at one point, close to the 159bp 2 October high.” In their assessment, “lingering concerns about the budget are clearly being compounded by rising social unrest,” while their France economist “discusses here the potential economic implications of the riots.”

Why do Hungary, Poland and Romania still face wider spreads than new Eurozone members?

The funding advantage of recent Eurozone entrants is evident in the comparison highlighted by BNY Mellon’s Geoff Yu: “even after a decline of nearly 250bp in Hungary’s 10y yield, its borrowing spread over 10y Bunds remains higher than in 2018.” Hungary’s spread is “also well above those of Croatia and Bulgaria – the most recent entrants to the Eurozone,” he observes. Yu further notes that “Polish and Romanian borrowing spreads are even higher and also barely changed from 2018 (Exhibit 4),” supporting the assessment that Central European sovereigns outside the Eurozone still pay a structural premium for long-term funding compared with their Eurozone counterparts.

Higher crude oil prices are also lending support to the commodity-linked Canadian Dollar (CAD). Traders’ assessment of conflicting reports on diplomatic engagement between the United States and Iran helped underpin energy markets.

Following senior-level diplomatic talks in Tehran, broader market momentum came under pressure. Pakistan’s army chief, Field Marshal Asim Munir, met senior Iranian leaders there. A diplomat participating in the discussions clarified that efforts to resolve the conflict remained under way, but dismissed reports that a final agreement with Washington was imminent as premature.

How is the sharp repricing of BoC rate hikes supporting the Canadian Dollar?

A substantial change in domestic interest-rate expectations has supported the Canadian Dollar, according to MUFG/BTMU analysts, who say “the Canadian dollar has been boosted by the hawkish repricing of BoC rate hike expectations.” The rapid adjustment is reflected in their observation that “the Canadian rate market has moved to more fully price in a 25bps hike as soon as next week,” with “around 21bps of hikes priced in compared to only 9bps at the end of last week,” highlighting both the pace and extent of the shift in BoC pricing.