France’s minority government is facing a tough situation. Prime Minister François Bayrou has called for a confidence vote on his €44 billion budget-cutting plan, scheduled for September 8. The National Rally, Greens, and Socialists plan to vote against it, which could lead to the government’s fall. If Bayrou loses the vote, his cabinet will collapse. President Emmanuel Macron will then have to decide whether to appoint a new prime minister, keep Bayrou as caretaker, or call for new elections. The ongoing political instability has already impacted markets, with French bond spreads over German Bunds rising by 5 basis points—the highest since mid-June—and the CAC 40 index dropping by 1.6%.

Previous Prime Minister Loss

Macron has faced a similar situation before when a prime minister lost a budget no-confidence vote, highlighting the government’s instability. Bayrou is aware of the risks involved but believes that addressing France’s debt burden of 5.8% of GDP, nearly double the EU limit, is more important. Even if he survives the September vote, it doesn’t guarantee that the budget will pass later in the year. With the confidence vote approaching on September 8, we can expect increased market volatility in the next two weeks. The price of options on the CAC 40 index is likely to rise as investors prepare for greater fluctuations. Buying options could be a straightforward way to trade based on this uncertainty. Given the high risk of the government collapsing, buying put options on the CAC 40 could allow investors to profit from or protect against a market downturn. A similar situation occurred in June 2024 when a snap election announcement caused the index to fall over 6% in just one week. A similar drop could happen again if the government loses the vote. For a clearer strategy, traders might consider using bear put spreads on the CAC 40. This strategy involves buying a put option and selling another at a lower strike price, which reduces the initial cost of the trade. It’s an effective way to bet on a market drop while limiting both risk and potential reward.

Widening French-German Bond Spreads

The widening gap between French and German bonds is another important aspect to monitor. As this spread pushes towards 80 basis points—similar to the highs seen during the 2024 election scare—traders can short French OAT futures while holding long positions in German Bund futures. This trade will profit if investors continue to seek higher returns for holding French debt. However, we should also think about the possibility that the government survives the vote, which could lead to a sudden relief rally. In that case, the high implied volatility currently priced into options might drop quickly, decreasing their value. Selling options to take advantage of these high premiums is a viable but riskier strategy for those who believe the government will succeed. Create your live VT Markets account and start trading now.

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