Contrarian in the French debt selloff: A$370 billion pension fund adds positions, betting fiscal risks are overestimated

Australia's second-largest pension fund is buying French government bonds. The institution believes the market has overpriced France's fiscal troubles and the prospect of European Central Bank rate hikes. According to senior portfolio manager Jimmy Louca, Australian Retirement Trust (ART) began adding to positions in September when the French 10-year government bond yield broke above 4.5%, and accelerated purchases during the October selloffwhen concerns about France's fiscal credibility and political instability pushed yields up to 5%, the highest level since 2002. "We think the market has overpriced both sidesthe extent of ECB rate hikes and the fiscal deterioration likely to occur in this cycle," Louca said in an interview. The company manages about A$370 billion (approximately US$260 billion) in assets. France's debt troubles evoke memories of the eurozone debt crisis. Political turmoil combined with street protests have made France's efforts to control its ballooning debt arduous. With most investors choosing to exit and betting that further ECB rate hikes will continue to suppress demand, ART's buying stands out. This unease has spread to the euro, making it the worst-performing G10 currency against the dollar this month. Louca said ART's increased French bond holdings are part of its dynamic asset allocation strategy: positioning when market prices are undervalued relative to the fund's calculated fair value and pricing is dislocated. As a long-term investor, the fund adheres to a buy-low, sell-high approach to generate returns for its members. He noted that in October, French yields rose above 5%, deviating further from the company's fair value assessment, prompting it to increase exposure during the recent market dislocation. Louca believes this selloff reflects a sharp repricing of fiscal risk. The spread between French and German 10-year government bond yields has doubled since early September, reaching about 170 basis points last weekthe widest gap since the 2011 euro debt crisis. Investors are particularly focused on near-term risk, namely that opposition to the government's 54 billion (approximately US$61 billion) fiscal plan could hinder efforts to repair public finances. But Louca said both the government and the National Rally will ultimately bring deficit-reduction proposals into the 2027 election. It is understood that Moody's did not downgrade France's sovereign rating last Friday, and France did not see a repeat of large-scale riots and looting over the weekend, giving France a brief respite. On Monday, French 10-year government bond futures rose 68 ticks to 108.31. Macro strategist Brendan Fagan commented: "This institutional view is surprisingly optimistic about France's reform prospects, but given the rating levels of comparable sovereign nations, a Moody's downgrade of France's sovereign rating is likely still unavoidable." ART also believes the market may have overestimated the extent of ECB rate hikes needed. Rising energy prices are currently pushing up inflation, but also squeezing incomes and growth, which the fund expects will ultimately cool inflation and pull down yields. France is said to be just one of the overweight targets in this allocation strategy, with Australia and the UK also included. ART believes inflation and fiscal risks in these markets are all overpriced. The fund is slightly underweight US and Japanese government bonds, citing strong economic and inflationary pressures in both countries that have not yet been fully reflected in government bond yields. Louca referenced Europe's journey out of the last debt crisis to illustrate that France should be viewed with a long-term perspective. He added: "The road ahead may be bumpier and take longer than short-term investors expect, but it's worth noting that Greece and Italy have now achieved primary fiscal surplusessomething that would have been almost unimaginable back then."