European stocks and euro tiptoe higher on French vote outcome

By Lawrence White

LONDON (Reuters) -European stocks as well as the euro staged a nervous rally on Monday as the far right took a smaller lead in the first round of France's election than some expected, suggesting a hung parliament could result and hamper the party's agenda.

The election has unsettled markets as both the far right and the left-wing alliance that came second have pledged heavy spending at a time when France's high budget deficit has already prompted the European Commission to recommend disciplinary steps.

The euro rose 0.33% while the Paris CAC 40 index jumped 1.5%, driving a 0.5% rise in the regional STOXX 600 benchmark, as investors assessed far-right National Rally leader Marine Le Pen's historic tally.

French 10-year government bond prices however reversed earlier gains, pushing yields up by 4 basis points to 3.33%, their highest since November, in a sign of continued nervousness about political risks in the country.

"There is a sense of relief that the first round of the French elections weren’t as comprehensively in Le Pen’s favour as the polls indicated," said Tony Sycamore, market analyst at IG.

"This raises hopes that the National Rally won't win an outright majority, nor be in a position to open the purse strings, a proposition which had the French bond market and the euro looking nervously over their shoulders."

Exit polls showed Marine Le Pen's National Rally (RN) winning around 34% of the vote, comfortably ahead of leftist and centrist rivals. But the chances of the eurosceptic, anti-immigrant RN winning power next week will hinge on the political dealmaking by its rivals over the coming days.

The focus now shifts to the July 7 runoff and will depend on how parties decide to join forces in each of France's 577 constituencies for the second round, and could still result in a majority for RN.

"Investors are concerned that if the (RN) wins a majority, this could set the stage for France to clash with the EU, which could disrupt Europe’s markets and the euro sharply," said Vasu Menon, managing director of investment strategy at OCBC.

In Asia, the MSCI's broadest index of Asia-Pacific shares outside Japan hovered in flat territory in a subdued start to the second half of the year, having risen 7% so far in 2024.

SPOTLIGHT ON FEDERAL RESERVE

U.S. stock index futures edged higher ahead of manufacturing PMI data, with the focus also on U.S. labor market numbers later in the week that will be parsed for clues on the Federal Reserve's monetary policy path.

The spotlight remains on if and when the Fed will start cutting rates in the wake of data on Friday showing U.S. monthly inflation was unchanged in May.

In the 12 months through May, the PCE price index increased 2.6% after advancing 2.7% in April. Last month's inflation readings were in line with economists' expectations but they remain above the Fed's 2% target for inflation.

Still, markets are clinging to expectations of at least two rate cuts from the Fed this year with a cut in September pegged in at 63% probability, the CME FedWatch tool showed.

Investor focus this week will be on the minutes of the Fed's June meeting that will offer more clues on the central bank's thinking before the spotlight switches to payrolls data on Friday. The Fed in June projected just one rate cut in 2024.

Among currencies, the yen traded slightly weaker at 161.06 per dollar after skidding to 161.27 on Friday, its weakest level since late 1986, keeping traders on edge for signs of intervention from the Japanese authorities.

A quarterly central bank survey showed on Monday the business mood in Japan's service sector soured in June, while a rare unscheduled downgrade to the country's GDP data also showed the economy shrank more than reported in the first quarter.

In commodities, oil prices edged higher, with Brent futures 0.6% higher at $85.51 per barrel and U.S. West Texas Intermediate crude futures up 0.54% at $81.97. [O/R]

(Reporting by Lawrence White in London and Ankur Banerjee in SingaporeEditing by Stephen Coates, Miral Fahmy, Mark Heinrich and Christina Fincher)