Madrid bank shares fall on political fears after elections signal instability

Spanish stocks dropped after elections on Sunday left no clear winner, signalling weeks of political instability ahead.

Lenders and utilities contributed the most to the decline in the Madrid stock market index — the IBEX 35 — which fell 1.9% at one stage yesterday.

Banco Santander, Banco Bilbao Vizcaya Argentaria and CaixaBank fell more than 2.4%, while Iberdrola, the nation’s largest utility owner, declined 1.9% on speculation those industries would be among the most hurt if a new government modifies policies.

“The market was not ready for this result, it’s one of the worst scenarios that we could imagine,” Nuria Alvarez, a bank analyst at Renta 4 Banco in Madrid, said.

“The uncertainty is especially bad for the banking and the utility sectors since there can be regulatory changes that could affect them,” the analyst said.

The ruling People’s Party failed to gain enough seats in parliament to form a coalition that would be big enough to govern, potentially leading to more stock market volatility ahead.

If the PP doesn’t manage to get an absolute majority — a scenario that’s likely as there is no obvious alliance that would add up to the 176 seats needed — and if no government gets approved, new elections may eventually be held.

Spanish shares have suffered from political uncertainty this year.

They’re among the biggest decliners in western Europe, with the IBEX 35 down 7.2%.

Yet the losses have failed to spread to other European bourses.

Spain's politics are a mess & investors are reacting by selling Spanish stocks, @mahargbf https://t.co/WwkJuHkIzd pic.twitter.com/uibEfo9pQG

— Reuters Breakingviews (@Breakingviews) December 21, 2015

“The risk that a new Spanish government could adopt policies that would really jeopardise Spain’s place in the euro or trigger a new euro crisis still looks small,” said Holger Schmieding, chief economist at Berenberg Bank in London.

While Spain is one of the fastest growing European economies, forecast to expand 3.1% this year and 2.7% next, a new government that backtracks on market- friendly policies may kick the country off track, according to Barclays.

“The policies of the next government could determine whether Spain’s growth prospects move closer to Ireland’s or stay closer to those of its southern European neighbours,” Barclays economists Antonio Garcia Pascual and Apolline Menut wrote yesterday.

Yields on Spain’s 10-year government bonds rose as much as 18 basis points to 1.87%, the highest in more than a month.

While that’s above the record low of 1.048% set in March, it’s still less than a quarter of the 7.75% level reached in 2012.

While Spanish bonds have underperformed most of their peripheral peers this year, the ECB’s bond-purchase plan has insulated Spain’s securities from the type of sell-off that characterised the region’s debt crisis.

Bonds of other nations from Europe’s periphery also declined.

The yield on Italian 10-year bonds added two basis points to 1.59%, and that on similar-maturity Portuguese debt climbed two basis points to 2.5%.

German 10-year yields were little changed at 0.55%.

But there was little effect here, with the yield on the Irish 10-year bond trading little changed at 1.06%.

Owen Callan, fixed income expert at Cantor Fitzgerald Ireland, said the big market moves were mostly limited to Spain.

Something similar may happen here if there were a hung Dáil after the looming election, but the market reaction has not been huge, Mr Callan said.

Thanks to the ECB, diving into the riskiest parts of Europe’s government bond market proved to be a clear winner this year, and some of the world’s biggest money managers say 2016 will be no different.

BlackRock, Pacific Investment Management and Prudential Financial all say debt from Europe’s peripheral nations — those less-creditworthy borrowers such as Portugal, Italy and Greece — are primed to excel once again as the ECB extends its unprecedented bond buying.

With the Federal Reserve finally raising US interest rates, they’re taking a dimmer view of Treasuries as forecasts suggest the securities are headed for losses.

While Europe was roiled by concern a Greek default would splinter the eurozone, international investors are nevertheless wading deeper into the riskiest euro nations — a vote of confidence that suggests its members can avoid a repeat of crises over the years that almost tore the region apart.

Tepid growth and the risk of deflation also mean ECB President Mario Draghi may need to step up stimulus in 2016 — which JPMorgan Chase says will help Europe outperform the US as monetary policies diverge.

“A lot of these credits that were feared to be disasters like the peripherals from Spain, all the way down to Greece, had events for years and there’s going to be political and economic challenges going forward but those have been the best performers,” said Robert Tipp, the chief investment strategist at the fixed-income unit of Prudential, which oversees $947 billion (€871bn) globally.

Mr Tipp said the firm’s global funds are maintaining their “overweight” stance on bonds of peripheral countries in 2016.

Those nations have led the charge this year.

Greek bonds returned 22% as the Mediterranean country recovered from a debt showdown with creditors led by Germany and implemented measures to curb government spending.

Debt issued by Italy and Portugal also returned more than 3%. Higher-rated countries, such as Germany and the US, have lagged behind.

Although the dollar’s appreciation this year would have eroded those returns for dollar-based money managers, Mr Tipp says most big global investors hedge away that risk when they invest outside their home country.

In fact, quirks in forwards market pricing have meant dollar-based investors have added to their returns when hedging, Mr Tipp said.

Going into 2016, Portugal is a favourite for Scott Thiel, BlackRock’s deputy chief investment officer for fundamental fixed income.

A big reason is the potential return on Portugal’s debt.

At 3.7%, the country’s 30-year bonds yield almost 2.4 percentage points more than comparable German bunds, the eurozone’s benchmark.

Gains are likely to increase as the nation’s economy improves and the ECB’s debt purchases — which currently stand at €60bn a month — drive prices up and reduce the yield gap between the two markets.

Even after Portugal’s ruling coalition lost power to the minority Socialist government last month, the nation’s borrowing costs have fallen faster than those of Germany.

It’s an “obvious investment,” said Mr Thiel, whose New York-based firm oversees $4.5 trillion (€4.12tn) as the world’s largest money manager.

BlackRock is the biggest owner of Portugal’s bonds due in February 2045, holding more than 10% of the securities.

They have returned in excess of 10%.