The spread between French and German 10-year government bond yields widened rapidly from approximately 60 basis points (bp) at the end of May to 85-87 bp, quite close to its highest level since July 2024. Mizuho Bank believes this widening spread is mainly concentrated in the 10-year maturity. The steepening of the French yield curve relative to other European sovereign bonds indicates that the market is increasing its risk premium for French duration risk, rather than simply trading a more hawkish ECB.
Mizuho Bank believes that current fiscal and political risks in France still support a cautious market stance, but as budget negotiations and the presidential election progress in 2027, the Franco-German spread could further break through the current 85-87 bp to 90-95 bp.
For the Franco-German spread to sustainably remain above 90 bp, the market needs to see further deterioration in the fiscal or political environment, such as a breakdown in budget negotiations, a further decline in fiscal targets, increased support for parties with more accommodative fiscal policies, or deteriorating government stability. Around 90 bp is essentially a risk repricing.
However, if the spread exceeds 95 basis points further, the valuation of French government bonds will approach the average spread of BBB+ rated sovereign bonds in our model, while France's current rating is two notches higher than BBB+. In other words, if the market pushes the French spread above 95 basis points, it is equivalent to pricing in approximately two notches of rating deterioration in advance.
