The 2017 political calendar looks to be overflowing with things to worry about. Will it be the Scylla of a Geert Wilders led Dutch parliament in March or the Charybdis of a Marine Le Pen presidency in May? German elections later in the year will surely show a large part of the electorate expressing their dissatisfaction with the status quo, while more Italian elections are never far away.
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However, 2016 has amply demonstrated that changes in the political discourse can make for fascinating editorials, but may not have predictable or, more importantly, durable investment ramifications. We expect this to remain the case in 2017. For Europe in particular, we take comfort in the fact that the constitutional backdrop in many countries has evolved specifically to mute the influence of the extreme ends of the political spectrum in the post-war period1.
For France, the fact that Francois Fillon is now installed as the centre right candidate for next year’s elections in May increases our belief that Marine Le Pen will be defeated by an electoral system designed to safeguard the influence of the political centre ground. She may well make it into the second round, but we would expect sufficient numbers of the moderate left to turn out in support for Francois Fillon, so continuing to keep the Front Nationale in abeyance.
Meanwhile, the far-right politician, Geert Wilders of the Freedom party, could well be the next elected leader of Holland. However, for the Dutch to be able to hold a referendum on an international treaty, he would need to assemble a parliamentary supermajority to approve the necessary constitutional change2 – something that we see as far less likely.
Germany’s ‘Alternative fur Deutschland’ (AfD) has seen its support rise in the wake of the surge in Syrian immigration. However, we think AfD will manage to attain representation but not material influence in the German political set-up. Current opinion polls put the AfD support in the low teens in percentage terms, with no party signalling any willingness to cooperate with it to form a coalition.
Following its referendum on constitutional reform, Italy is now in political limbo, something that the economy is not unfamiliar with in the post-war period. While we suspect that the economy will remain a source of some disappointment through 2017, we do not see an increased probability of an Italian exit from the euro, particularly while the constitution remains almost perfectly bicameral.
There will be plenty of ugly headlines and concerned talking heads, however we would still urge investors to focus on the underlying fundamentals of the economies in question. In Europe, the latest reading of our most trusted cyclical lead indicators suggest that the region’s economic prospects remain more or less healthy (Figures 8 and 9). Outside of the base effects from previous declines in energy prices, inflationary forces remain benign. However, we suspect that the peak of deflation fears and monetary extremism for this cycle has now passed. This supports an overweight position in continental European stocks. For those European investors more nervous of less benign outcomes in the above-mentioned political events, but keen to stay invested in equities, we would suggest holding unhedged exposure in US equities.
1 Moderating Political Extremism: Single vs. Dual Ballot Elections – Bordignon, Tabellini, April 2008
2 EU referenda beyond the UK: unlikely for now – Barclays Live, July 2016