Italian Referendum Sparks Risk Asset Selloff

Daily Analysis - 05/12/2016

Prime Minister Concedes Defeat As Italians Vote Against Proposed Constitutional Reforms

After losing the referendum designed to consolidate the Italian government and deliver more stability, Italian Prime Minister Matteo Renzi is set to offer his resignation as promised. The result has sent shockwaves through Europe, with the Euro down to the lowest point in over a year versus the dollar as financial markets are rattled by the development.

All Eyes on Italy as Risks Mount

The ambitious reforms proposed by Prime Minister Matteo Renzi have ended in failure after Italian voted no in the referendum, paving the way for Renzi to resign and a new government to be formed. According to some early stats, the “yes” vote lost by as much as 20.00%, indicating that anti-government sentiment continues to boil over across Europe. Beppe Grillo, leader of the Five Star Movement, is already calling for new elections after polls show his party running neck and neck with Renzi’s Democratic Party (PD). The bigger problem with the result is that the ensuing political instability could make it more difficult for struggling Italian banks to recapitalize and restructure. The result has been a sharp selloff in EURUSD since the open, with the pair reaching the lowest point since March of 2015.

Oil Falls on Profit-Taking and Rising Production

Although markets remain cheery following the announcement of the OPEC deal last week, profit-taking early at the weekly reopening combined with the prospect of rising US production have dented the rally moderately. According to US oil-services giant Baker Hughes, the drill rig count continues to rise, climbing to 477 last week from 474 a week prior. This coincides with the pickup in US production which rose to 8.699 million barrels per day during the week of Thanksgiving. While still nearly 500,000 barrels below production levels recorded a year ago, higher prices are making way for a comeback in the shale patch after low prices forced many producers to shutter operations. If production continues to climb and retakes 9.000 million barrels per day, it could set the stage for another dramatic price drop as OPEC deal implementation awaits.

Chinese Services Expansion Accelerating

In a positive sign for the Chinese economy despite the multitude of looming risks, the services sector showed another month of strong growth. The Caixin Services Purchasing Managers’ Index rose to 53.1 in November, marking the highest print since July of 2015. Gains were primarily driven by climbing new orders, better forward looking expectations, and increasing employment according to the index. All this comes at a time when officials are struggling to contain capital flight and a slowdown in the industrial sector. Despite massive stimulus efforts, the pace of capital outflows continues to trouble policymakers as they are forced to spend reserves in an effort to defend the Yuan against an even bigger decline. After retreating for several sessions, USDCNH is back on the climb, pulling back from earlier session highs.

Turkish Inflation Cools to Lowest Since May

After weeks of concern following the steep tumble in the Turkish Lira, policymakers welcomed the latest inflation report. According to the Turkish Statistical Institute, consumer price inflation fell to a 7.00% annualized pace of growth in November as the pace of food and alcohol gains tapered. However, despite the positivity, other measures continue to grow at a higher than desired pace. Furthermore, a report on producer prices shows that the inflationary measure rose to the highest point in 14-months, driven largely by the Lira depreciation. Although Turkish President Recep Tayyip Erdogan has called for conducting foreign trade in local currencies to shore up the Lira, he may face opposition from trading partners such as Russia, China, and Iran especially if the local currency continues its collapse. After reaching a record high on Friday, the USDTRY pair is climbing back towards the level as the dollar resumes its momentum higher.