View from City Road: Cross-Channel incentives

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The Independent Online
Bastille Day gave investors on the Paris stock market some relief from the storming of the franc fort on the foreign exchange markets.

Yet if the French franc, despite all protestations to the contrary, is devalued, French shares could be the market to be in over the next 12 months.

Despite a noticeable easing of monetary policy and a promised net relaxation of fiscal policy since the new government came to power in the spring, the French CAC-40 index has not performed well. At 1971.9 it stands 2 per cent lower than it did at the end of March.

Analysts suspect that the policy of lowering short-term interest rates below their German counterparts, at a time of weakness in the mark, has not offset the loss of competitiveness caused by the policy of a strong franc.

The experience of the UK market, which jumped by 25 per cent between leaving the exchange rate mechanism in September and March, provides an encouraging precedent for investors. It is one that will not be lost upon the French government as it plans to launch a FFr40bn privatisation programme this autumn.

Not only that. A franc devaluation would have implications for UK- quoted companies with subsidiaries based in France. In the first instance profits denominated in francs would suffer from translation into sterling.

Subsequently this loss of profits could be clawed back by a faster pace of activity in France as exports improve and domestic demand increases in response to an inevitable fall in French short-term interest rates. By waiting for the devaluation to occur, investors will be able to reap these rewards.

UK companies that stand to take a short-term knock include Guinness with its stake in LVMH, the luxury goods group; Blenheim Group, the exhibitions organiser; Redland with its French quarries; and Wolseley, the plumbing distributor. Direct exporters like Rover and the component makers T&N and BBA will not throw their hats in the air. Recent excursions by Tesco and Kingfisher into French retailing are too small to have much impact. Longer-term prospects look brighter.

Other corporate losers from a French devaluation could include BPB, the plasterboard manufacturer, which faces stiff competition in its UK market from the French producer, Lafarge. Pilkington has enjoyed firm glass prices that may not endure if its rival St Gobain uses devaluation to cut its prices.

The franc, of course, may yet hold out. Some analysts believe that the Bundesbank will march short-term rates down, and fire a rise in the French stock market. Paribas Capital Markets expects three-month French money market rates to drop from 7.3 per cent to 4.5 per cent in the first half of next year or close to dividend yields of 3.5 per cent.

On this basis Paribas projects a 20 per cent return to sterling investors in the CAC-40 over the next 12 months, compared with a mere 7 per cent from the FTSE-100. It may be time to cross the Channel.