Monday 22 January 2018

Markets will give us only weeks, not months, to cut coalition deal

Donal O'Donovan

Donal O'Donovan

It will take a more prolonged period of political uncertainty to really rattle investors, but Irish government bonds are expected to be hit today when markets open for the first time since the election.

Friday's inconclusive vote carries strong echoes of Spain, where efforts to form a government have been unsuccessful since elections in December, and Portugal, where a weak minority government has been in power since October.

An unclear general election outcome in a third Eurozone country at the same time may well cause financial investors to sit up and take notice, and not in a good way.

Worse still would be a protracted hung Dáil at the same time as investors nervously watch the run-up to Britain's June referendum on EU membership. The vote has huge implications for Ireland, which will be magnified for investors by a prolonged period of internal political instability.

"There has been an indecisive vote, and markets don't like uncertainty," said Ryan McGrath, head of fixed-income strategy at Cantor Fitzgerald in Dublin. He expects Irish bond yields will open weaker today on the back of that, but not dramatically.

A rise in bond yields pushes up the notional cost of borrowing for the State - indicating how much lenders would seek if the Government wanted to raise new money, but the interest on existing debt doesn't change.

"Before the vote markets were braced for either a hung Dáil or a Fine Gael/Fianna Fáil coalition, and they are still the two possibilities," Mr McGrath said.

When that possible outcome was being mooted earlier in the month it pushed up bond yields but investors who saw value in the bonds - because they are convinced by Ireland's wider recovery story - came in quickly and settled the market, he said.

In the short term that's likely to happen again, he thinks, because a lot of investors are sold on the Irish case. But the longer it takes to put together a new coalition, the tougher it will be to keep markets onside, he said.

That's been the experience in Spain. Trading in its bonds has become increasingly volatile since an election in December ended in a stalemate leaving no party in a position to form a government, or so far, even to put together a coalition.

Portugal emerged from its bailout in 2014 comfortably able to raise money on the markets, but has seen its debt costs shoot up since October, when elections returned a fractured parliament and a brought a left leaning minority government to power

If coalition talks here run into months rather than week then Ireland will see the same results, according to Ryan McGrath.

Ryan McGrath thinks the pressure will come on Fine Gael and Fianna Fáil to form a government.

"There is hardly the width of a cigarette paper between them on most policy issues," said Philip O'Sullivan, an economist at Investec in Dublin. From a markets perspective, if there isn't a new coalition a second election should happen sooner rather than later, reckons Mr McGrath.

One thing which investors may be betting on, is that in Ireland a hung Dáil can be quickly dissolved and a new elections held. That's not the case in Spain, where a fresh vote that might break the impasse cannot be held until six months after the last.

One factor in Ireland's favour is that even if bond yields go up, the State is under no short term pressure to raise money on the markets. "The National Treasury management Agency (NTMA) is under no pressure here," said Mr McGrath.

About €4bn of the total €6bn to €10bn expected to be borrowed this year has already been raised, and at low rates. In theory as little as €2bn needs to be borrowed over the next 10 months.

Irish Independent

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