To know where to look to trade over the Italian referendum, first and foremost, we must understand what is going on and the implications of the vote.
So, what's happening over in Italy? A referendum is being held on the 4th December to decide on the powers of the upper House of Parliament. The aim is to make the legislative process more efficient. That doesn't seem like too bad of an idea by PM Renzi. However, what has happened is that a door has been opened for people to express their discontent at the Prime Minister and his policies in general, including structural and budget reforms.
Voters primarily are being asked to decide on the following:
A move away from the bicameral system, meaning that currently there are 945 elected members from both the Chamber of Deputies and the Senate of the Republic. They effectively have the same duties and powers but the process is somewhat long-winded when trying to pass reform. A bill gets discussed independently in House, amended hopefully eventually accepted then passed over to the other House for reading, amending, rejecting and so on. If amended, it gets passed back to the first House so forth. Of course, all of this with 945 members with an opinion. I don't know about you, but with a wife and 3 kids around a dinner table, what to eat barely gets a consensus in our “House”! Reform would seem sensible here.
As do the following:
- A reduction in Parliament numbers
- Containment of operating costs
- Abolition of the CNEL – which is basically more advisors and more opinions to take into account.
It all seems fairly sensible. But, and here is the trading issue, so far this year sense has given way to emotion on more than one occasion. Whilst these reforms seems fine to the outside world, it is being viewed as a chance to voice opinion over more than the reforms. A chance to voice concern over Europe and Italians own thoughts as to their country.
Now, my opinion on this is not worth anything as I am not Italian and do not honestly know enough about their day-to-day lives. But the fact is we all fear the growing contagion effect to the euro area as a whole. Euro scepticism is on the rapid increase. That we can all agree on. Include the US in the equation and the current status quo of greater integration is highly under scrutiny.
So far the polls are showing that the “No” vote is way out in front at 53.5% to these reforms. Polls as we know haven't been that much of a reliable barometer of late but that is how we currently sit.
If a “No” vote goes through what is likely to happen. One of three things. PM Renzi may stay as PM. I see this as unlikely but possible. It has the least destabilizing effect if this outcome from a “No” vote were to happen. Renzi could resign, secondly, forcing in an unstable interim government or lastly, a snap election could be called. Grillo will be shouting from the roof tops for this last outcome as his Five Star movement is being polled as the likely winner of the next General election. And this is extremely negative for the Euro area. They are large advocators of Italy's exit from the EU. Could the EU survive a Brexit and an “Itexit”?
Of course the polls could be wrong, again! A “Yes” vote could get passed and this would stabilize things for a while at least. Elections are still due by May 2018, but we can worry about that in a years time.
So to sum up, as we move from the least destabilizing to the most:
A YES is best for Italian assets – EuroStoxx would rally, euro FX would move up, yields on bonds should edge lower seeing the spread between Bunds and BTPs tighten back a bit. Currently they sit at their widest point (190bps) since early 2014.
A NO with Renzi staying as PM – Short-term and minor recovery in Italian assests, Stoxx a choppy move, but likely to edge higher as relief sets in, euro FX likewise and BTPs tighten in a bit.
A NO with resignation – Weakness in Italian assets, short-term selling in Stoxx and Euro FX with Bunds being viewed as a further safe-haven over BTPs causing further spread widening.
A NO with snap election – Significantly hurt Italian assets, further euro weakness from an already low point (see chart), Bunds/BTP spread to widen further. Although as a caution I would add that Bunds could still sell-off on contagion fears just not as much as BTPs will.
The further euro scepticism would not bode well long-term for the EU and one would start to wonder if behind the scenes preparation for an unwind were in progress. I suspect they are in all honesty.
