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Italian referendum approaches: led by polls, markets are increasingly pricing a “No” victory

The referendum for the final approval of the reform of Italy's constitution is approaching, as it will be held on 4 December. The outcome will certainly have political consequences for the future of Matteo Renzi, the current President of the Council of Ministers, but also for the country's political landscape and for the path of the structural reforms needed. Opinion polls suggest that the NO camp is in the lead and that the proportion of undecided voters, although still high, has been declining over the last few weeks, with more undecided voters apparently joining the NO camp than the YES camp. However, in the last few days attention has also moved to the many Italians abroad, potentially helping to reduce the gap as they are not captured in domestic polls: the NO camp, in particular, recently seems to be more concerned about their impact on the final result, as Italians abroad seem much more in favour of YES to the reform than “domestic” voters.

The increasing gap between NO and YES in all major polls has clearly contributed to putting more pressure on Italian equity and bond markets relative to other major Eurozone countries over the last few days: we guess that, to some extent, the recent rise in the BTP spread is already implying a higher probability attached to a No victory. In this respect, the situation looks different from what occurred in other recent election experiences: polls were all showing a higher probability for Bremain vs. Brexit, for example, before the UK referendum. In the case of a YES victory, and therefore polls wrong again as in the recent US elections, the surprise would probably lead to a recovery in Italian markets from current market levels and from the levels that will be reached next week just before the referendum. Moreover, the rise in the 10-yr BTP spread and in the spreads of other Eurozone countries has also been amplified by the Trump effect on bond yields, while there are still uncertainties about the ECB’s attitude towards an extension of the current purchase programme.

In the case of a NO victory, the ball will move into the court of President Mattarella. In our view, the extent of the YES defeat could be quite relevant for the political future of the current government and PM. A relatively narrow gap, with YES for example reaching around 40%/45%, would support Renzi in being accorded another mandate by President Sergio Mattarella to verify through a confidence vote if the parliamentary majority currently in place is still supporting his government. Interestingly, polls conducted over single measures (one by one) included in the whole reform bill, show that the majority of Italians seem to be in favour of some “core” proposed changes, especially in the camp of the measures aimed at speeding up the legislative process. Therefore, a narrow gap would also confirm that a significant proportion of Italians is still in favour of structural reforms, even in the case of a NO majority to this overall proposed reform. In any case, it looks quite likely that the main task of any government, whether the continuation of the Renzi government or a transitional government, is going to be the change in the electoral law.

Over the next few days, therefore, Italian markets are likely to continue feeling the pressure of increasing uncertainty. However, at the same time, a negative outcome is already likely to be considerably discounted by next Friday, reducing the potential additional effect on Monday the 5th. We also have to consider that the ECB meeting is scheduled for the following Thursday, just four days after the referendum and markets are also likely to take this into account in the days following the referendum.

Given the context (rise of populism, economic situation, etc.), a rejection of the Italian referendum is therefore certainly possible. The probability of seeing Matteo Renzi remain in office is not negligible, but he will have to obtain either a favourable vote in the referendum (a narrow victory is still possible), or an "acceptable" defeat. In the event of a large victory by the NO camp, Matteo Renzi will probably not be able to remain in office as the President of the Council of Ministers. However, beware: the real political issue for Italy is not the referendum at the beginning of December (in the worst-case scenario there will be a coalition or a technical government), but rather the electoral law which is likely to change the whole political landscape on a single election (in February 2018 or before in the event of early elections) - that would represent a major change after 5 years of political stability.



BERTONCINI Sergio , Credit Strategy
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Italian referendum approaches: led by polls, markets are increasingly pricing a “No” victory
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