Standard & Poor's downgraded France's rating to A+ due to unforeseen budget risks, causing bond futures to drop in response.

French bond futures edged lower, following a sudden downgrade of France's sovereign credit rating by S&P Global Ratings from AA- to A+, highlighting the country's fiscal challenges and posing a risk of forced selling of French bonds for some funds. In early Asia trading, the 10-year French bond futures fell 21 ticks to 122.94, while the German counterpart saw a relatively mild decline. The euro came under pressure on Friday evening but remained basically unchanged. This downgrade marks France losing the AA rating from two of the three major rating agencies (with Fitch having downgraded in September), Moody's is set to announce its assessment results on Friday. S&P pointed out in its report, "The uncertainty in public finances remains high in the run-up to the 2027 presidential election." France is currently experiencing its most severe political instability since the establishment of the Fifth republic in 1958, with a lack of visibility in the fiscal consolidation plan putting pressure on economic growth. Prime Minister Sebastien Le Coq survived a vote of no confidence last week, partially boosting the market, but only after agreeing to suspend President Emmanuel Macron's pension reform a reform aimed at improving public finances. The unexpected move could exacerbate the pressure on French bond spreads, raising borrowing costs and undermining France's economic position. The downgrade also undermines the already fragile confidence in the need for deeper structural reforms to revive productivity and growth in the Eurozone core. The France-Germany 10-year bond yield spread a key risk indicator soared from under 50 basis points before the 2024 early election to nearly 90 basis points; after Le Coq survived the no-confidence vote last week and promised to suspend the pension reform, the spread narrowed to about 78 basis points. This temporarily avoids immediate election risk but complicates the fiscal consolidation path, a core concern for rating agencies. The downgrade may also reduce the attractiveness of French bonds to risk-averse asset owners such as central bank reserve management departments and some pension funds. Products managed by companies like BlackRock, Vanguard Group, and Fidelity Group aim for an average rating of AA and above, and these products were popular during the Eurozone crisis due to the demand for safe haven assets. French bonds still remain in investment-grade territory, and the majority of holders can continue to hold them. However, there may be some forced selling during fund rebalancing, and the widespread impact of the rating downgrade on investor sentiment has already become apparent: since Macron held early legislative elections last year leading to a hung parliament, France's borrowing costs have remained higher than its Eurozone peers, and the political deadlock has pushed bond yields above levels seen in lower-rated countries like Greece and Portugal. The market focus is now shifting to the French budget negotiations. Le Coq has abandoned the use of Article 49.3 of the constitution, which the government previously used to bypass parliamentary votes on financial bills, increasing the difficulty of lawmakers reaching an agreement on the 2026 budget before the end of the year. Another risk lies in Moody's review on Friday; currently, Moody's rating for France is Aa3 (the lowest of the AA category), with a stable outlook.