Basta un Sì (Just A Yes), Another Political Gamble to Finish the Year

November 25, 2016

By Patrick Ercolano, CFA, MBA
Portfolio Manager

Italians are going to vote in a referendum on December 4 and so far, the polls are showing the “no” camp winning. If you’re not sure what the referendum is actually about, you’re not alone.

My family, who’s Italian, doesn’t really get it either. They just know that the world-renowned Italian chef, Massimo Bottura (whose restaurant Osteria Francescana was named the best in the world), has threatened to leave the country if the “no” side wins.

(Hey Massimo: If you want to move to Ottawa’s Little Italy, I’m happy to help. Just pay me in cannoli and sfogliatelle!)

What is the referendum about?

The referendum is about introducing major reforms to the constitution as it pertains to parliament’s powers and election method. Currently, it has two chambers with the same power, but the proposed reforms would reduce the numbers in the Senate and give more power to the Chamber of Deputies (similar to the House of Commons).

Months ago, in what has turned out to be a poor strategy, Prime Minister Renzi said that he would resign if the referendum failed. That instantly transformed the vote into a referendum on Renzi himself.

What does a “yes” outcome mean?

If the referendum is passed, it would help resolve some of the problems of ineffective governments. Matteo Renzi would remain prime minister and be very well positioned to win the election in the spring of 2018.

What does a “no” outcome mean?

If the referendum is not passed, Renzi will probably resign and a new government (led by either Renzi or some other non-market-threatening figure) will take over and try to last until the spring of 2018.

If voters reject the constitutional overhaul, it means that Italy will have wasted another decade. Implementation of already-passed economic reforms will stall and broad structural reforms in the education and judicial systems may never happen.

Will Italy exit the euro if the referendum fails?

Even though prominent commentary has suggested otherwise, the Italian public is still very much pro-European. They’re not looking for a referendum to exit the EU and believe their country would be worse off if it did.

What Italians do want is more leniency from the EU on budget matters. That is unlikely to happen any time soon, but we are very far from a breakout of anti-European sentiment in Italy.

What could this mean for MD clients?

Our funds and portfolios hold limited assets in Italian equities. In fact, our portfolios are already underweight in International Equities compared to North American Equities. Even if the outcome is “yes”, the ultra-low growth in Europe will be a difficult trend to revert.

For me, the more interesting question is how the markets will react. If Renzi doesn't get his way, investors will have more reasons to be pessimistic about the long-term future of Italy. One would also expect potential for global volatility.

But given the rise of populism and protectionism we’ve seen with the Brexit vote and the U.S. election, who knows? Market reactions have run counter to experts’ expectations, either with a quick recovery or an upward turn.

Overall, if the referendum fails, it’s unlikely to be an existential threat to either Italy or Europe as we know it.

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