French elections a binary event for traders: Le Pen or no Le Pen?

How big of a risk is the French election for the markets?

The risk is big, although the first round result might be priced in. The thing is that we have seen USD/JPY rising along with gold. That explains hedging with safe haven assets. Rising Treasury yields just helped the up-move on USDJPY. I think, that volatility will be much higher if Le Pen won the first round with more than 5% advantage. The main risk is round 2 on May 7, where a Le Pen victory would be seen as a surprise due to official polls predicting Macron win. These elections are binary to me: Le Pen or no Le Pen. Also don’t forget that if France wants out of EU, it needs a parliamentary vote that would hardly happen in present conditions.

Which is the best tool to track French-election market risk? French bonds? CAC-40? Polls?

Both. The CAC40 is mainly Manufacturing, Banking, Construction and Services index. It has a High Valuation with a Avg PE ratio above 21. All meaning, it could get very volatile if France returns to Franc. Let me shortly explain Price to Earnings ratio. It is the main indicator to value Stocks. It essentially means, the number of years of Earnings required to payback the investment in purchasing the Stock. The higher the PE, the more expensive, and longer it takes to payback the stock. Normal Market Valuations range around 14-16. The higher the PE the more over-valued the Stock. During recessions, PE can drop below 10.

Polls are forecasting a very tight race among the main four candidates in Sunday’s first round: how low could EURUSD go in case of a Le Pen vs Mélenchon showdown in the second round?

Not good for EUR. If Le Pen faced Mélenchon, the chance of Le Pen victory would be higher than if she faced Macron. A drop towards 1.0540 then possibly 1.0400. If Le Pen wins break of 1.0350 could slowly lead to parity.

And how high could the EURUSD rally if Fillon vs Macron was the outcome of the first round?

1.0820. If Macron wins overall, the EUR could slowly grind to 1.0935-60, and door to 1.1050 will be open. I have even 1.1250 on my charts towards year-end.

Could the French election have a GBP-Brexit-type effect on the EUR?

I am afraid – yes, though only if Le Pen won.

Should traders prepare for important gaps in the Euro on the post-election Monday openings?

CAC40 traders possibly yes. EURUSD traders should be prepared too. Although those gaps might be closed soon after, except for major surprises.

Where would capital fly in case of a EUR meltdown if there was a Frexit? German bonds? USD? Other currencies?

German Bonds might be popular, but if the EUR is to dissolve, then even German Bonds could be impacted as the EUROs may no longer exist. JPY is always strong in risk-off environment. Maybe Bitcoin as well.

Is the European Union "two-speeds" idea good for the EUR in the long-term?

This is not a good idea, as economies on different speeds will be restricted to a single monetary policy, making the policy useless in different economic situations. I mean why would you have low rates in a booming export driven economy like Germany as interest rates start to improve there, whilst countries like Greece remain stagnant at 23% unemployment.