Italian Election Takeaways
Courtesy of FactSet StreetAccount
Monday, March 05, 2018
- Results so far from Sunday’s Italian election vote indicate that around half of the voters cast their ballot in favor of anti-establishment parties, like the Five Star Movement and the Northern League while the mainstream parties, like the center-right Forza Italia and the center-left Democratic Party, suffered a drop in support, particularly the leftist bloc. Vote points to a hung parliament and political gridlock, meaning parties will wrangle over possible coalitions in the coming months. Sell-side firms in response to the election, said the outcome so far is broadly in line with expectations – that being a hung parliament with populist making meaningful gains – and while some fiscal consolidation may be reversed in the coming weeks, together with elevated political uncertainty, the risk of an Italian exit from the Eurozone or EU, remains low.
- Notes uncertainty is likely to remain elevated for a few weeks - in the next 20 days, the parties will start some informal discussions to try and reach some potential agreements. However, believes any eventual agreement at this stage would be informal and its longevity will be immediately tested with the start of the institutional and political process that will lead to the appointment of the new government. Does not expect the new government to be appointed before April. Also reckons that while volatility may increase over the short term given the stronger-than-expected result of the so-called anti-systemic parties, the risk remains low of Italians contesting membership of the EU and the euro, or a radical revision of Italy's fiscal priorities.
- Says that much now will depend on Italy’s president Sergio Mattarella as he will decide after lengthy consultations whom he will give the first go at trying to form a coalition. For that, the president need not follow the first recommendations of party leaders. Notes that key options for the president would be a broad "grand coalition" between the entire center-right/right and the center-left against the Five Star party or a government led by it. Adds that the risk that new elections may have to be called – probably after the summer break – is not negligible. However, echoes other sell-side firms by highlighting that the tail risk that Italy may be heading for a euro referendum remains low.
- Highlights that overall, a grand coalition or center-right coalition together with some smaller parties still seems most likely. Notes that even in the case of a euroskeptic coalition of Five Star and Northern League emerging, an actual euro exit risk is low. However, such an outcome would still be the most adverse one for markets, given the combination of reform roll-back and significant fiscal easing, which could bring Italy’s debt woes quickly back into focus. Reckons it is unlikely a new Italian government will be in place before May or June this year. Notes that should renewed coalition building efforts fail, new elections held the second half of this year cannot be ruled out either.
- Says it expects formation of a wide and heterogeneous coalition that could include anti-system parties but does not expect such a coalition to deliver meaningful structural reforms, and depending on its composition, it sees risk that previous reforms could be unraveled. Over the medium term, firm remains of the view that the next legislature will be characterized by political instability that could culminate in government crisis and or snap elections. Highlighted stronger performance of anti-establishment parties and uncertainty around negotiations to form a government in the coming days could be taken slightly negatively by the market in the short term.
- Expects only a contained negative market reaction in the short-term, and essentially idiosyncratic to Italy rather than more broader, as the hung parliament likely means weeks if not months of discussions, with political players only showing their cards progressively, while current PM Gentiloni continues as caretaker PM. Also, the center right might eventually find a way to form a majority, as an alliance of the centrist forces is now mathematically impossible, and an alliance of the more extreme parties is theoretically possible – meaning markets will have to deal with more fundamental uncertainty than anticipated.
- Notes that volatility in Italian spreads is likely to remain during the negotiation phase of forming a government although, it’s unlikely that the Five Star and Northern League would join together to form a populist government (they will together probably have a majority in both Italian chambers). Reckons however that positive cyclical tailwinds and, notably, expectations that Italy’s debt stock as a share of GDP is set to decline this year for the first time in more than a decade, argue that the spread widening will represent a buying opportunity.
- Adds the most likely scenario now is that the center-right coalition will receive from President Mattarella the mandate to form a government, with the Northern League being the strongest political party in this coalition. This means that most likely markets will adjust in the short-term to price in this factor. Says in the medium-term, much will depend on how the official negotiations unfold, but recommends staying cautious. Sees the center-right coalition as a very fragile one and a broad coalition scenario very unlikely, thus remains skeptical about the formation of a populist government involving Five Star and the Northern League.