Wealth Strategies
Bond Investors Brace For Another Bout Of Italian Political Theatre - Robeco

The fund management group comments on another Italian referendum that potentially gets 2017 off to a difficult start for bond investors.
Just when bond market investors such as wealth managers
thought there were no immediate political upsets on the way from
Italy, another potential issue has emerged with a referendum
on labour market reforms (there was a referendum on political
reform in December, which was lost by the government, ending in
the resignation of prime minister Matteo Renzi).
In this article from European investment house Robeco, Kommer van Trigtl,
portfolio manager of the Robeco Global Total Return Bond Fund,
and Marck Bulter, portfolio manager of Robeco Euro Government
Bonds, examine the Italian situation. Robeco is one of the
largest investment names in Europe, with €137 billion ($143.9
billion) of AuM as at the end of September 2016.
This item is republished here with permission. The views of the authors are not necessarily shared by the editors of this news service and we invite readers to respond. They can email tom.burroughes@wealthbriefing.com.
Though the Italian government bond market has just calmed down since last month’s referendum, a new referendum is already looming. This referendum aims to repeal Renzi’s labour market reform.
Early elections are also becoming increasingly likely. We are
therefore negative on Italian bonds. The root cause of Italian
problems: a chronic lack of growth. Several Italian problems are
making headlines: banks struggling with non-performing loans,
political instability and Europe’s second-highest debt-to-GDP
ratio (after Greece), to name a few. All of these issues are
directly related to the structurally weak economic growth: on
average, the Italian economy has shown no growth over the past 15
years and Italian productivity has not grown over the last 20
years. As regards NPLs, many Italian companies struggle to
repay their bank loans due to a lack of domestic demand.
Furthermore, support for protest parties is rising as
unemployment remains high, with 36 per cent youth
unemployment.
And the government debt has risen to more than 132 per cent of
GDP as GDP hardly grows and successive governments try to boost
growth with further spending. Italy needs structurally stronger
growth in order to address all of these problems, and stronger
growth requires structural reforms. Renewed political turmoil
obviously does not bode well for further reforms. Italy can
hardly afford to roll back reforms - or to discuss leaving the
eurozone lightly, as the leader of the anti-euro Five Star
Movement (M5S) is currently doing. Italian labour unions have
collected the necessary signatures to hold a referendum, aiming
to repeal the recently implemented labour market reforms. These
reforms were the main achievement of Renzi’s government.
Employment finally started to grow last year, which was likely
related to this reform.
On 11 January, the Constitutional Court will decide if all
requirements have been met and if so, set a date for
the referendum. According to the Italian newspaper Il Sole 24
Ore, there is a legal requirement to organise the referendum
by no later than 15 June. Unlike the referendum last December,
this referendum will have a quorum, meaning the turnout must be
more than 50 per cent. But given the importance of the topic and
the previous referendum’s 70 per cent turnout, the quorum can be
met. The Italian government apparently shares this view and is
worried about the referendum.
The labour minister, Giuliano Poletti, stated that if the court
approves the referendum, the government will ask the president to
dissolve Parliament and call early elections. As a result, any
forthcoming referendum would be postponed by twelve months.
However, general elections also pose risks.
According to the polls, the governing centre-left PD party is in
a neck-and-neck race with M5S. Its leader, Beppe Grillo, is
advocating a referendum on Italy’s membership of the eurozone.
While calling such a referendum is legally complicated, the sole
aim to do so could upset markets. Refinancing Italy’s
€2 trillion of sovereign debt at affordable rates would be
challenging in the case of an abrupt Italian euro-exit. But even
if M5S will not be part of a new government, Berlusconi’s party
seems the most reasonable coalition partner for Renzi’s PD party.
This does not bode well for political stability, and with a
fragmented coalition it will be more difficult to push through
reforms. But under which electoral law? Another complication is
that the electoral law is currently being contested before the
Constitutional Court.
Calling new elections without a proper electoral law is a recipe
for political turmoil. After the December referendum (on reducing
the powers of the Senate), President Sergio Mattarella has tasked
the current government with aligning the electoral laws for the
Parliament and the Senate. Under the current incongruent laws,
political gridlock is highly likely. Furthermore, under the
current electoral law (the Italicum) the most popular political
party will automatically have a majority in Parliament.
This increases the likelihood of M5S achieving an absolute
majority. The Constitutional Court will rule on the Italicum on
24 January. The decision to call elections could be postponed
until after this ruling. Italian government bonds are likely to
come under pressure. While Italian government bonds have
recovered since last month’s referendum, the outlook is not
good.
Early elections pose risks, given the rise of the anti-Euro M5S
in the polls and the uncertainty about the electoral law. But a
potential repeal of the main reform implemented by Renzi is also
a negative.
The necessary further reforms are unlikely to be implemented in either scenario, irrespective of whether early elections are called or the referendum is held. We are therefore negative on Italian government bonds and have positioned our portfolios, including Robeco Global Total Return Bond Fund, Robeco All Strategy Euro Bond Fund and Robeco Euro Government Bonds, for rising Italian government bond yields.