The EUR/USD remained steady at $1.084 after briefly falling to $1.08 as investors moved past the initial shock of France's election results. A leftist alliance unexpectedly took the lead, resulting in a hung parliament. Despite initial resilience, the French CAC 40 closed in the red, mirroring the performance of global equities, as France now faces challenging negotiations and uncertainty in forming a government. The OAT-Bund 10-year spread narrowed to 62bps, a fresh 3-week low, as this outcome is seen as more favorable compared to a potential right-wing government.

In economic data, Germany's trade surplus in May rose to €24.9 billion, a 4-month high, despite decreased demand for both imports and exports. Exports fell 3.6% month-on-month to a five-month low, while imports declined by 6.6% month-on-month, also reaching a five-month low. Additionally, ECB’s Knot joined other Governing Council members in endorsing current market expectations for rates in 2024 (40-42bps). With ECB rate cut expectations likely stable in the coming weeks and potential additional easing anticipated for September 2024, the Fed's actions will be a major driver for EUR/USD. Attention now shifts to the US CPI report due on Thursday.

The Euro index, which tracks the performance of the euro against a basket of nine leading global currencies, ended the day slightly lower due to a cautious market mood. EUR/GBP declined for the second consecutive day as political tensions weighed on the euro. Despite the ongoing turmoil in France, further advances may be limited as the pair approaches its 200-month SMA at €1.1870, a key moving average it has struggled to break since Brexit.

Last week was heavily influenced by politics, with significant election outcomes in both the UK and Europe. Starting with the UK, the General Election resulted in a substantial Labour Party majority, which is being viewed positively for the Pound due to anticipated political stability. The Labour Party has secured a majority of 174 in the House of Commons, while the Liberal Democrats also won 71 seats, leaving center-right parties with less than 20% of the seats. Labour has promised a responsible fiscal approach, though increased spending pressures are expected.

In a surprising turn for both the center and far right, the previously ruling Conservative Party obtained only 122 seats, while Reform garnered just 5 seats despite significant voter support for the anti-immigration party.

Looking ahead, the primary driver for the Pound this week will likely be several UK data releases. On Wednesday, Bank of England (BoE) official Huw Pill is scheduled to speak. As the BoE had paused public statements ahead of the UK’s election, GBP investors will closely watch Pill’s remarks for any clues about UK monetary policy.

On Thursday, the latest UK GDP data is expected to show a slight increase, which could support the Pound towards the end of the week. Turning to the Euro, data from within the Eurozone is limited this week, potentially causing EUR exchange rates to lack a clear direction. Consequently, the French elections will dominate the news, with the Euro weighed down by the possibility of political deadlock in France, as exit polls indicate no party is likely to secure a clear majority.

The leftist alliance is projected to win up to 198 seats, Macron’s centrists up to 169 seats, and Marine Le Pen’s far-right National Rally up to 143 seats. These results have raised concerns about further political uncertainty and market volatility, with the prospect of a left-wing government posing potential fiscal risks.

As anticipated, the UK election had minimal impact on the markets. The Labour Party secured a significant victory, poised for a substantial parliamentary majority. However, UK bonds and the British pound remained steady, as opinion polls had shown little change since the election was called six weeks ago.

What's next? Investors will shift their attention back to interest rates, which will ultimately influence the pound's direction in the coming weeks and months.

For the next five years, Labour will govern with its largest majority (170 seats) since 1997, according to the 10pm exit poll. Votes are still being counted, but Keir Starmer's party reached the crucial 326 seats for a House of Commons majority just before 5am this morning and is projected to win 410 seats, compared to the Conservatives' 131. The Liberal Democrats are expected to secure 61 seats, and Reform UK 13, indicating that the Conservative vote was squeezed nationwide. This could present a challenge for Labour, which will need to address the rise of the hard right, a trend seen across Europe.

Labour has expressed its intent to strengthen trade relations between the UK and the EU, potentially leading to a partial reduction of the pound's Brexit premium. However, any enthusiasm for the currency will be cautious, given that the new ruling party has ruled out rejoining the single market or customs union. Indeed, a modest decline in sterling over the next week would not be surprising, as GBP/USD has historically fallen around 1% following a general election. However, today's US jobs report could disrupt this trend if it shows weak results.

Some investors believe UK assets, including the pound, might offer refuge in the coming months from political instability in countries like France and the US. Nonetheless, attention remains on macroeconomic data and the monetary policy outlook. We expect more easing from the Bank of England than the market predicts (45 basis points) this year, starting with a cut in August. This could keep GBP/USD below $1.30 for a while, while GBP/EUR is likely to stay relatively stable, barring any upheaval from the French election this weekend.

Opinion polls have shown remarkable consistency over the past six weeks. Despite a four-point drop for the opposition Labour Party, a final YouGov poll suggests they are still on track to achieve the largest majority for any single party since 1832. Meanwhile, the ruling Conservatives have fallen by three points, the Liberal Democrats have gained one point, and Reform UK has increased by five points. The UK's ruling Conservatives are facing potential electoral defeat today, but the extent of the loss remains uncertain. Exit polls around 10pm should provide a clearer picture of the final outcome.

How might markets react? The muted response in gilts and sterling during this election campaign suggests that investors expect Labour to maintain fiscal stability. However, if Labour forms a minority or coalition government, markets might react negatively due to renewed fears of political instability. Current polls indicate a large Labour majority of 90-200 seats, with Conservative seats projected between 53 and 155. The incumbent party hopes the polling industry is underestimating them, as it did in 1992, but even a similar polling error would only give the Tories around 170 seats, far short of the 325 needed for a majority. With a majority of 50-100 seats, Labour should be able to implement its policy agenda, focusing on fiscal prudence and gradually moving towards closer alignment with the European Union (EU).

This could benefit UK growth and is one reason why GBP has risen since the election was called, reaching two-year highs of €1.19 against EUR and nearing $1.28 versus USD. The long-term outlook for sterling might become more bullish given Labour's intention to strengthen UK-EU trade relations, which should gradually reduce the pound's Brexit premium.

In the FX options market, the cost of insuring against FX volatility around the election date has remained relatively low, indicating investor confidence in the outcome. The election's impact on the pound will likely come from the lifting of the Bank of England speaker blackout. The interest rate narrative will ultimately drive the pound's direction in the coming weeks and months, so markets will welcome new guidance ahead of the BoE's next meeting in August.