France's short-term funding markets have remained largely stable despite a sharp sell-off in government bonds, suggesting the recent turbulence has yet to develop into a broader financial crisis, according to a report by Bloomberg.

Hedge funds have been reducing exposure to French sovereign debt amid growing political and fiscal uncertainty ahead of the country's 2027 presidential election, contributing to widening bond spreads and increased market volatility.

However, the repurchase agreement (repo) market, where hedge funds and other financial institutions borrow cash against government bond collateral to finance leveraged positions, has shown limited signs of stress.

French repo rates have stabilised at around 12 basis points above the central bank deposit rate, only slightly above their three-month average, according to CME Group data, following a brief increase during the recent volatility.

"The early stage of a real bond crisis will occur on the repo market because this is where a lot of the business is going on," said Benoit Gerard, rates strategist at Natixis. "That would be one of the early signals of something big happening on France."

The stability suggests that recent selling reflects longer-term concerns about France's fiscal position rather than an immediate shortage of funding or deterioration in the country's creditworthiness.

Rohan Khanna, head of European rates strategy at Barclays, said the relative stability of repo markets indicated that investors were not facing a widespread scramble for cash.

Nevertheless, regulators remain concerned about the growing role of leveraged hedge fund strategies in sovereign debt markets.

In its June financial stability report, the Banque de France warned that increasing participation by non-bank financial institutions, high leverage and concentrated trading activity could amplify market stress and create contagion risks.

The central bank highlighted the role of a small number of major banks in providing financing to hedge funds pursuing highly leveraged arbitrage strategies.

Iain Stealey, chief investment officer at J.P. Morgan Asset Management, attributed the recent widening of French bond spreads partly to the unwinding of concentrated leveraged trades.

The stability of repo funding is particularly important because disruption could force hedge funds to liquidate further bond positions, creating a feedback loop between falling bond prices, higher financing costs and additional selling.

A further deterioration in France's sovereign credit ratings could increase those risks by restricting the range of institutions willing or permitted to accept French bonds as collateral.

Glen Stone, head of trading and execution at TreasurySpring, said a downgrade below key collateral eligibility thresholds could reduce the pool of available lenders and increase the cost of financing French government debt.

France is currently rated A+ by Fitch Ratings and S&P Global Ratings, while Moody's maintains a higher rating and is scheduled to review the country's creditworthiness later in October.

Political uncertainty surrounding France's proposed 2027 budget remains a key concern, with parliamentary divisions threatening efforts to reduce the government's fiscal deficit.

Despite those risks, market participants said the conditions for a broader funding crisis have not yet emerged.

Deborah Cunningham, chief investment officer of Federated Hermes' $680bn liquidity markets business, described the situation as a crisis of confidence rather than a systemic funding breakdown.

"It's not full-blown, but definitely a crisis of confidence," she said. "The full-blown crisis would be when you start to see some of the more quantitative statistics reflecting what is more sentiment at this point."