“No one is so brave that he is not disturbed by something unexpected.”
— Julius Caesar
As described in our recent Capital Markets Outlook, developed economies continue down the path of political risk.
Elections serve as a barometer of public discontent, as they should, and as voters in the wealthiest democracies go to the polls, we are seeing them embrace abnormal degrees of change. This trend emerged first in Greece and in Spain but has spread from there. While each nation’s issues vary, the common threads appear to be discontent with the slow and uncertain pace of economic growth under recent monetary and fiscal policies and a reassessment of the impact of global trade.
Donald Trump’s electoral win in the United States, following the U.K.’s decision in favor of Brexit, adds yet another populist log to the fire. It has given a boost to populist movements in Europe, including France’s National Front under Marine Le Pen.
This Sunday, December 4, Italy votes. While it is a referendum on constitutional questions rather than on trade or a parliamentary election, it will be viewed as one in a series of democracies considering change. Italy’s prime minister, Matteo Renzi, has endorsed the constitutional changes. Should voters reject the constitutional changes, it could be followed by Renzi resigning.
We are watching the referendum in Italy this weekend for yet another existential crisis for the euro. In our view, the structural reforms for the financial system undertaken to date — simply bringing eurozone bank supervisory responsibility under the European Central Bank (ECB) did not go far enough. What is needed is a true banking union. Italy continues to be the flashpoint for questions about who ends up holding the bag for failed banks, and if there is a political crisis, things could unravel quickly.
As such we do consider it wise to be cautious with risk levels in global portfolios and in European financials in particular, especially since there has been a 30% rally in the Euro Stoxx Banks Index since reaching a low point in July.