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In his eight years as President of the European Central Bank, Mario Draghi developed an almost legendary ability to curb the borrowing costs of eurozone governments. Investors seem to attribute powers similar to that of the Italian prime minister, judging by the calm that has descended on the region’s bond markets since he took office in February.
Italian bond prices rose and reduced debt costs, as Draghi switched from the former central banker widely credited with domesticating the eurozone debt crisis a decade ago in a politician. After a brief hesitation in recent weeks, as investors were anxious for the ECB to start withdrawing its emergency stimulus soon, Rome’s borrowing costs are back to a minimum in a month.
Goldman Sachs analysts have dubbed the former ECB chief’s power over bond markets as “putting Draghi”. “The price of Italian sovereign risk points to confidence in Draghi’s ability to contain political risk,” the bank wrote in a note to clients last week.
Investors have shown support for the prime minister’s plans to overhaul the Italian bureaucracy as they spend € 205 billion on EU recovery money. The significant differential that Italy pays for its debt in relation to the interest costs of ten-year ultra-safe German bonds is just above one percentage point, not well above the minimum five-year period in February.
“There’s definitely a vision in the market that Draghi can’t do any harm, that everything he touches turns to gold,” said James Athey, a bond portfolio manager at Aberdeen Standard Investments.
Some fund managers perceive the opportunity to remove Italy from decades of low-growth corporation. They are committed to the stability provided by Draghi’s National Unity Coalition, which provides an ideal backdrop for the reform agenda, as Italy deploys one of the most important actions of the 750 billion pandemic recovery fund. EU euros. The government has established a watchdog to oversee cash disbursement and has introduced measures to streamline bureaucracy and accelerate infrastructure development.
“This is exactly what Italy needs to tackle its long-term problems. It is a tax expense aimed at the right reforms,” said Gareth Colesmith, head of global tariffs at Insight Investment. “That’s why we’re positive in Italy.”
The direction of Italian spreads has repercussions beyond its borders. As the largest public bond market in the euro area and one of the riskiest, Italy sets the tone for high-risk assets across the bloc. For now, the “Draghi effect” has helped resolve concerns about Italy’s substantial public debt of more than 160% of GDP, according to Andrea Iannelli, investment director at Fidelity International.
That may be too optimistic, Iannelli argues. Plans are one thing, but deploying billions of investments could revive old political conflicts. There are some signs of discontent among voters, with Italy’s brothers against the EU (the only major party that does not support Draghi’s coalition), currently in second place nationally after consistently winning the urns.
“It won’t be easy sailing,” Iannelli said. “And simple sailing is something the market has come at a price for.”
As a technocratic appointment, Draghi is not expected to continue as prime minister beyond the next election. The coalition’s term is set to end in 2023, although it could be voted on as early as next year if Draghi decides to run for Italy’s presidency.
Chiara Cremonesi, UniCredit’s fixed-income strategist, said markets could soon start worrying about what the unity coalition might follow. “Investors are positive about Draghi, so they are obviously worried about how long his government will last,” he said. UniCredit is not expecting an election in 2022, but an “increase in political noise” could push spreads back to the level of about 1.2 percentage points reached before Draghi arrived, he added.
Even without political savings, the relative calm of the markets depends on the ECB and its continued market support through the € 1.85 million pandemic bond purchase program introduced by Draghi’s successor at the central bank, Christine Lagarde. A sale of euro area bonds in May, which widened Italian spreads and also raised German yields, demonstrates the sensitivity of markets to any suggestion of an anticipated “reduction” in net purchases. from the current rate of 80 billion euros per month.
Since then, a succession of ECB officials, including Lagarde, has assured investors that it will maintain its efforts at this month’s policy meeting. Investors think the ECB will be very sensitive to any increase in Italian yields, in particular. As long as the former head of the ECB remains in office, some are betting that the central bank will be more likely to keep stimulus values running.
“As long as they think Italy is making sensible reforms, they will continue to support it,” Colesmith said.
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