Weekly Bond Update: Catalan elections won’t change a thing
- December elections in Catalonia unlikely to change situation
- 2017 referendum sparked less market movement than 2012, 2016 crises
- Impact of vote may be felt more in neighbouring nations than in markets
By Althea Spinozzi
As November draws to a close, investors are looking around to find potentially exciting plays into year-end. Apart the fact that the Federal Reserve may push another interest rate hike through in December, and apart from the high-yield bond issuances that continue to flood the market, the event of the month is probably going to be the upcoming election in Catalonia.
It's incredible to think that such a small region could attract the attention of fixed income investors worldwide, but as we are living in a world of record low volatility, investors are constantly looking for opportunities that may move the market – and Catalonia is certainly one of them.
The region has already spooked investors a few times over the past six years. Not only was Catalonia affected by the Spanish housing bubble that swelled between 2008 and 2013, it also sparked crises of its own by repeatedly demanding independence from Spain.
Catalan government bond, 2020 maturity:
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The chart above shows the yield of Catalonia’s regional notes (2020 maturity) from 2012 until today. As you can see, there are three key moments where Catalonian yield spiked: at the beginning of 2012, in March 2016, and finally in October of this year.
At the beginning of 2012, the Catalan government yield surged by 116% due to a distressed situation in the Spanish financial system. At that moment, Spain was unable to bail out its financial sector and had to apply for a rescue package via the European Stability Mechanism. At the same time, Catalonia’s regional debt alone accounted for 38% of the total debt held by Spain’s autonomous communities.
Investors started to sell off Spanish sovereigns and regional paper as they feared they may face default.
In July of the same year, however, European Central Bank president Mario Draghi announced in London that the ECB was “ready to do whatever it takes to preserve the euro”, reinforcing his statement by saying “and believe me, it will be enough.” Only a week later, the ECB announced a programme to buy government bonds from distressed European countries, bringing down yields across the entire euro area as speculative trades against weaker EU countries were discouraged.
After this, things in the periphery started to settle down. In 2016, however, Catalonia suffered another blow as the region faced €4.6 billion in bond redemptions that same year and was claiming its independence from Spain to boot. As a consequence, Spain threatened to cut off Catalonia's financial supply. Investors panicked once again and sold off both Spanish and Catalonian debt.
Pro-independence factions might be disappointed to learn that the actual referendum held in October didn’t scare investors as much as the events mentioned above. As a matter of fact, although Catalonia’s bond yield went up by 80 basis points during the 2017 crisis, it reverted once the Spanish government took control of Catalonia, dissolving the regional parliament and announcing new elections.
The reality is that while the referendum held in October was illegal, the elections that are going to be held before Christmas are real. Even though the polls indicate that Catalonia's pro-independence parties (PdeCat, ERC, and CUP) may not be able to get the 68 seats needed to achieve parliamentary monopoly, they remain better organised than the pro-unity parties.
The anti-independence parties are ideologically very different with one being leftist, one liberal, and the third conservative. It is thus a challenge for them to show a united front on any issue save sovereignty itself.
We are therefore facing an election that could wind up with no winner. If the pro-independence parties win a majority, they will continue with their push towards a Catalan sovereignty; if the anti-independence parties will win, they will not be able to govern the region, and the separatist movement will make an example out of their incompetence and continue with their bid for independence.
At this point, what can investors expect from such an outcome? The answer is that they cannot expect anything different from what they have experienced over the last few years: the situation will drag on with minute ups and downs for longer, and volatility will increase.
One might think that in this situation, the bigger losers would be instruments belonging to corporates with exposure to Catalonia. However, if one looks at the subordinated bonds (they are normally the most sensitive instruments to market changes) of Catalan banks Sabadell and CaixaBank, one sees that yields went up by 60 and 30 bps respectively following the October referendum... but then quickly fell, touching new lows as the Spanish government restored order.
At the same time, the subordinated bonds of BBVA (which acquired Catalunya Banc in 2015) didn’t blink at all while the constitutional crisis escalated.
The reason why Spanish corporate bonds saw a marginal reaction is because the majority of these firms' revenue actually come from outside Spain. According to the Madrid stock exchange, only 36% of 2016's Ibex revenues came from Spain... BBVA, for example, employs more people in Mexico than in all of Spain.
It is important to note that political uncertainty in Catalonia may have more negative effects on neighboring countries than on Spanish companies. Broad support for pro-independence parties in Spain may be read as a strengthening of nationalistic sentiment in Europe, something that could also influence the Italian elections in May 2018.
If that is the case, Europe as we know it may be under threat.
Within the Saxo Platform there are numerous ways that investors can take advantage of the volatility that may arise in Spain or on the periphery. It is possible, for example, to trade government and corporate cash bonds as well as equities.
For more speculative investors there is a wide range of future, CFDs, and options that can provide exposure to various equity and fixed income indices such the Ibex 35, FTSE MIB, 10-year Spanish bonds, Italian 10-year BTPs, and much more.
— Edited by Michael McKenna
Althea Spinozzi is a sales trader at Saxo Bank