HALISTER1: WHAT TO WATCH: Spain Assets Buoyed by Vote But Doubts Persist

WHAT TO WATCH: Spain Assets Buoyed by Vote But Doubts Persist

(Bloomberg) -- Spanish assets book gains after acting PM Rajoy’s PP party consolidated its position and leftist grouping Podemos trailed in third place in Sunday’s election.
  • That said, all parties fell short of the 176 seats needed to form a majority and only a grand coalition of the PP and traditional opposition PSOE would surpass that threshold, suggesting negotiations may be drawn out, analysts say
  • Spain 10Y outperforms, with yield falling 19bps to 1.43%; spread vs BTPs turned negative first time since July 2015; Ibex 35 falls 1.45%, while EuroStoxx is 2.11% lower and FTSE MIB 2.40% lower, led by losses in its banking sector
WHO’S WHO?
  • The People’s Party or Partido Popular (PP) came first again and its share of seats rose to 137 from 123 at the 2015 election
  • The Socialist party (PSOE), which had been polling third in opinion polls took second place; but it lost five seats relative to its December result, taking 85 seats
    • Party spokesman Antonio Hernando says will vote against Rajoy as PM; PP should seek support among like-minded parties
  • Anti-establishment party Podemos formed an alliance with Izquierda Unida; the combined Unidos Podemos (UP) had been polling second place; the combined group secured 71 seats
  • Newly emerged pro-market party Ciudadanos came in fourth, losing 8 seats relative to December; the party’s leader Albert Rivera says he won’t support a government led by Rajoy; he will sit down with PP, Socialists to discuss major pieces of legislation
WHAT’S NEXT?
  • Acting PM Mariano Rajoy says PP needs PSOE for “fundamental issues;” says it’s time for dialog
  • The new parliament is likely to be formed by July 21 as it has to be convened within 25 days of the vote
  • The king will nominate a candidate for PM after discussions with the parties
  • If nominee doesn’t get an absolute majority, a second vote will be held 48 hours later where only a simple majority is needed
  • Congress has to elect a PM within two months from the first vote; if it fails, new elections will be called
  • The EC will decide on whether to sanction Spain for breaching budget limits in July
WHAT’S THE LIKELY OUTCOME?
  • PSOE’s performance was its worst since the early 1980s and leader Pedro Sanchez may be challenged over coming weeks; PM Rajoy’s leadership also likely to be questioned, especially if he needs to step down to secure a deal with Ciudadanos or the PSOE, SocGen analyst Yvan Mamalet writes
  • The worst outcome of a govt involving Podemos is off the table; see a 60% likelihood of a PP minority govt supported by PSOE and Ciudadanos, but only after lengthy negotiations, Eurasia’s Federico Santo writes
  • While PP, won the elections by a wider margin than in December it may find it difficult to secure additional seats elsewhere; PSOE remains the king maker, BofAML analysts Ruben Segura Cayuela and Gilles Moec write in client note
    • Negotiations could be long and all potential permutations of parties could be discussed, including those that markets might not like, they add
  • A new government more likely than a third round of elections, with a minority govt the most likely option, led by either the PP party or by a PSOE alliance with Unidos Podemos, Barclays analysts Apolline Menut and Antonio Garcia Pascual write
  • UniCredit analysts Luca Cazzulani and Edoardo Campanella say baseline scenario involves a minority government between the PP and Ciudadanos, with external support from the PSOE
  • ABN Amro says still likely Spain will miss its budget deficit target again this year and next and the country will be fined by the EC, especially as a soft approach could fuel euroskeptic sentiment in some core countries; any fine is likely to be bearable for the Spanish economy
HOW TO TRADE IT?
  • A grand coalition could see spreads tighten 25bps vs Germany, 15bps vs Italy while a center right govt could see them tighten 35bps and 20bps respectively, UBS analysts including Bosco Ojeda favor say
    • Either scenario would push local cyclical stocks, such as Hispania, NH Hotels, Melia, Indra, AENA, Abertis or local banks
  • But perceived stability of coalition would be crucial; a hung parliament and repeat elections would see spreads widen and weigh on stocks; would favor Telefonica, Euskaltel, Grifols on such an eventuality
  • The relief spread compression of this morning probably won’t last for long, analysts Aline Schuiling and Kim Liu write
    • SPGBs vulnerable to additional bouts of risk aversion on U.K. Brexit talks or the Italian vote later this year, possibly as other anti-establishments groups demand referendums; ECB QE will only partially offset any widening
  • SocGen’s Mamalet say a significant widening in bond yields wouldn’t be surprising given the current EU political crisis in the wake of Brexit
  • And BofAML analysts Ruben Segura-Cayuela and Gilles Moec say investor sentiment may sour over coming weeks; while QE may be enough to calm fixed-income markets that may not necessarily be the case when it comes to equities, they say in client note
    • Close 5Y Italy vs Spain on today’s moves
  • If negotiations to form a new government move ahead, UniCredit sees room for Spain to keep outperforming Italy; the 4Y and the 30Y area of the Spanish curve offer better value
Alert: HALISTER1
Source: BFW (Bloomberg First Word)

People
Albert Rivera (Autonomous Community of Catalonia)
Antonio Garcia Pascual (Barclays PLC)
Apolline Menut (Barclays PLC)
Edoardo Campanella (UniCredit SpA)
Gilles Moec (Merrill Lynch International)

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