Italians vote 'no': the possible impact on markets

Valentijn van Nieuwenhuijzen

Valentijn van Nieuwenhuijzen, Head of Strategy: "To start with the good news, the outcome of the Presidential election in Austria offers a glimmer of hope in the upcoming busy European electoral season. This shows at least that election results (compared to the polls) are not always biased to the populist side. The Italian referendum, however, did surprise in that direction by delivering a "No" vote by a much larger margin than anticipated on the back of a strong show up by voters."

"The referendum was about constitutional changes that needed to streamline the governance of the country, but has been interpreted by many as a confidence vote for Prime Minister Renzi. It that sense, it can also be seen as another test of the rising power of populism."

"Since Prime Minister Renzi resigned shortly after the results were known, the risk of early elections (second half of 2017) is increased. However, given the current constellation in Parliament, the base case remains that a new government under a new Prime Minister (most likely Padoan) will eventually win the confidence vote in Parliament."

"The focus of a new government will be to pass the 2017 budget and to change the Italicum in a way that softens the plurality premium. Moreover, the new government will need to find a resolution for the NPL problem in the banking system, probably within weeks. Without the latter, a more lasting damage to markets could materialize (after an initial day or two of market volatility). In such an unlikely event, a negative feedback loop between policy paralysis and growth momentum could strengthen, which might raise the popularity of the populists even further."

"In the outside chance of an early election, there is a risk of a M5S majority in the lower house. Nevertheless, the senate would still function under current rules. The main consequence would be even more policy paralysis rather than a genuine challenge to Italian membership of the Euro."

Emerging Markets

Maarten janbakkum
Maarten-Jan Bakkum

Maarten-Jan Bakkum, Senior Emerging Markets Strategist: "The larger-than-expected no-yes gap in the Italian referendum has not impressed markets so far. The bad result was priced apparently. This makes an Italian-driven risk aversion shock in global markets not very likely, at least for now. Risks in Italy remain high, but as long as the euro does not move much, Emerging Markets are unlikely to feel much additional pressure due to problems in Italy and the Eurozone. Europe is Asia's main trading partner, so it remains important to watch the euro and European growth prospects."

"For now, Emerging Markets are primarily driven by US yields (when yields are up, they put the emerging markets carry trade under more pressure) and news from China (this week the FX reserves number is likely to be worse and might cause some new worries about Chinese outflows). Meanwhile, increasing evidence of Chinese policy tightening should create more doubts about the sustainability of Chinese growth in the first half of 2017."

European High Yield

Sjors Haverkamp, Head of European High Yield: "The impact of the Italian referendum outcome on European High Yield, besides initial risk-off behavior of the sell side, is expected to be muted and manageable. Italian issues represent 10% of the European High Yield and 4% of the Global High Yield universe. Most of the Italian issuers are large companies, with the majority geographically diversified, with a stable cash flow profile in combination with sufficient liquidity. The outcome of the referendum will have most impact on the somewhat troubled financial sector with most banks rated investment grade."

Investment Grade Credit

Roel Janssen, Co- Head of Euro Investment Grade Credit: "The rejection of constitutional reform in the Italian referendum and Prime Minister Renzi's resignation were to some extent anticipated by markets and therefore are having a modest negative effect on Investment Grade Credit markets. As the risk of a "no" vote was clearly flagged in polls, market movements going forward will depend on three developments."

"The first important development is the impact on Italian politics, where near-term elections would be a clear negative but the formation of a caretaker government would maintain the status quo and therefore could help stabilize credit markets. Second is the impact on bank recapitalization, where failure of the current effort in recapitalizing Banca Monte dei Paschi could lead to a bail-in of bondholders and contagion in credit markets more broadly, but where a successful recapitalization or a scenario in which the E.U. is willing to grant exemptions to state aid rules could lead to a more positive outcome as well. Thirdly, the ECB will announce its next decision on monetary policy on Thursday, December 8th.

Some market participants were expecting the ECB to reduce its monthly purchase amount under its Asset Purchase Programme next year. If the ECB, perhaps partly in response to the Italian referendum outcome, would keep its monthly purchases unchanged and loosen some of the constraints of its programme to give itself more leeway to keep up its current pace of purchases for longer, this would be a positive market driver and help sentiment during the remainder of the year."

"In summary, Investment Grade Credit markets have taken the referendum result over the weekend in their stride, and much will now depend on developments in Italian politics, the Italian banking system, and the ECB to determine whether the referendum ends up becoming a more major market driver or not"

Global Fixed Income

Hans van Zwol

Hans van Zwol, Senior Portfolio Manager Global Fixed Income: "The Italian referendum concluded with a clear 'no' against the proposed constitutional reforms. Prime Minister Renzi has said to submit his resignation to the Italian president. For the political follow-up there are several scenario's possible and it remains unclear how exactly this will evolve."

"So far, the market's reaction is moderate. The interest differential between 10yr Italian government bonds and their German peers this morning initially widened by 0,14%, but is now almost back to last week's level. There is clearly no panic or strong flight to the safest assets. Due to worries about some weak Italian banks, spreads of financials are wider, but also here we do not see a very strong move."

"Longer term, there are some reasons to worry about financial markets. New elections could potentially bring the euro-sceptic Five Star Movement into power and political muddle through scenario's, in case of a caretaker government or other short-term solutions, will most likely mean that the Italian economy will continue to perform poorly due to the lack of reforms."

"Although Italy's risk premia over the best rated euro government bonds look attractive and the ECB's government bond buying programme offers cushion, we think that it is worth treating Italian government bonds carefully until we have more clarity on upcoming political developments."