Ok, so former FX trader Richard Breslow is back off the holiday weekend, and God knows we’re hoping for another set of daily missives like what we got last week (start here and work your way back).
On Tuesday, Breslow is focused on Europe where, over the past couple of days, there’s a palpable sense that sentiment has soured thanks to ambiguity around the political situation in Italy and, of course, Greece’s never-ending quest to free itself from debt serfdom.
Basically, Matteo Renzi has freaked everyone the fuck out by suggesting that snap elections could come as early as September (coinciding with elections in Germany). That’s six months ahead of schedule.
“Momentum is building among political leaders and is pushing towards early elections but it will be an uphill battle against the president and parts of the rank-and-file in the parliament,” Giovanni Orsina, a professor of government at Rome’s Luiss-Guido Carli University told Bloomberg in a phone interview.
If the country’s largest political parties can manage to get a new electoral law in place that installs a proportional system, we could see early elections and potentially, a hung parliament. Beppe Grillo’s Five-Star Movement has endorsed the electoral law changes and proposed elections on September 10.
“The new proposed law would likely not facilitate an outright victory by one of the three major political groups,” Lorenzo Codogno, founder of LC Macro Advisers said in a note out Monday, adding that “the risk of early elections has suddenly increased to 60%, [and] a hung parliament is thus the most likely outcome (95% probability).”
All of this has played havoc with the Italian banking sector (white line below) which, to put it mildly, has “unresolved” issues:
Here’s Citi’s take:
Electoral law deal => early election?
A reported in-principle agreement among the main political parties on a German-style proportional representation (PR) electoral law has raised chances of early elections in the autumn (vs. a natural deadline in spring 2018). In an interview on Sunday, PD leader Renzi said holding elections at the same time as Germany (24-Sept) would have many advantages and allow the next Italian parliament to start working with no delay. Populist M5S and centre-right Berlusconi are also reportedly in favour of an autumn election date.
Autumn election not a done deal yet
The electoral system still has to be detailed in a draft law (the devil is in the detail, as always), submitted to Parliament and voted before the summer recess (end-July) for elections to occur in the autumn. President Mattarella is unlikely to allow early elections without a new electoral law in place. Once that is done, the government has to be voted down in a no-confidence vote, the President has to dissolve Parliament and call the election – a min of 50 and max of 70 days after parliament is dissolved. Sep/Oct elections require all this to happen by end-July – still a quite tight schedule, in our view.
The earlier, to some extent, the better
Bringing forward the next election may not be a bad choice for Italy, after all.Several hurdles may lay ahead for the ruling party PD – currently fluctuating at ~28/30% of the votes, neck-and-neck with M5S – e.g., limited fiscal room for a pre-electoral 2018 budget, recapitalization of some struggling lenders with potentially associated burden-sharing of investors and a regional election in Sicily (5 Nov), where M5S is expected to win. The reform agenda is currently stuck and an election could be the only hope to re-ignite it. The ECB’s QE is still running, potentially smoothing market volatility around elections. On the other hand, rising political uncertainty and likely associated tighter financial conditions could well cool the recent uptrend in economic sentiment and reduce chances of a growth upside surprise for incumbent PD. And a PD-Forza Italia deal on the electoral law (hinting at a possible post-election grand coalition) risks boosting anti-establishment sentiment and fuelling support for M5S.
Yeah, so a lot going on there. And anytime there’s a lot going on in a European country that is not called “Germany,” it invariably means that spreads on debt issued by whatever country is in turmoil will widen versus bunds. To wit:
I think you get the idea.
So coming full circle, let’s get back to Breslow who, in the note excerpted below, tries to put all of this in context and condense it so it makes some measure of sense. Enjoy.
If there’s one group of people who are probably happy that the long weekend has come to an end, it’s the Europeans. It turns out that with the U.S., U.K. and China all on vacation and no one to deflect attention it’s been a trying period for them. Who would have thought that we’d be so missed? It’s yet another example of how the global narrative increasingly resembles a tag team wrestling exhibition. Or at least a heated he said, she said rumble.
- There’s likely little coincidence in the fact that, as if on cue, just when London traders bounded happily back to their desks, the euro stabilized, peripheral spreads paused from their latest widening episode and equities rose from their worst levels. You could almost hear “tag you’re it” being exhaled in multiple euro-zone dialects
- So before we completely put recent events behind us and concentrate on some spurious tweet, what are some of the things we did learn? And how might they affect trading?
- Clearly ECB President Mario Draghi does not want the euro to go up too far or too fast. And he is trying to resist getting too caught up in the German election. Bullishness on the currency is as strong and widespread as we’ve seen in a long time.
- Last week’s assault on the upside can’t be welcome to him, and he let it be known. No matter what President Trump and Finance Minister Schaeuble say
- Cue the dovish commentary. Hey, we’re doing great but don’t for a second think we’ll be bullied into any preemptive hawkish move. If 1.13 versus the dollar was big last week, today’s low near 1.11 is equally big. And more immediately painful for traders. It’s early in the week and we have defined a nifty range to play
- Italian politics and the economy remain very much in flux. And ultimately a source of worry. Possible early elections aren’t evidence of a source of strength. If anything it’s misdirection so investors don’t focus on the unique issues this country faces. In reality, they merely managed to put the problem and European threat back in focus. You can be sure none of this is lost on Draghi as he discusses, and sets, near-term policy
- The rumors and denials concerning the next Greek bailout repayment are probably negotiating tactics gone too far. But they also highlight how far the continent is from dealing with the haves and have-nots divide. You need to erase the check mark from the “this is a thing of the past” box and put it in “they still have enormous systemic issues” one
- The new French President Macron is using his honeymoon period to try and prove he’s a macho man. It’s all fine and has worked domestically and in Berlin so far. He shouldn’t overplay his hand. Neither Putin nor Trump are going to change their behavior based on it. And ultimately, French labor laws will determine his fate more than his handshake technique
- Chancellor Merkel’s comments about Europe’s relationship with the U.S. and the U.K. were great election theater but not the “game changer” that we’re led to believe. Don’t believe the hype that she is now the leader of the Western world, just because of buyer’s remorse from November. NATO is just as important to the continent as it’s been. Europe has no air defense without it. And as painful and futile as protectionism is, the “great” European economic resurgence we’re told about isn’t sustainable without a strong U.S. contribution
- It’s a shame the holiday came when it did. It has been so uplifting to dream that dream that it was Europe’s turn to lead the world out of its doldrums. They’re probably hoping there will be something coming along quickly to take them back off the front page