20 September 2019

Establishment of the new government, again with Giuseppe Conte, has relieved uncertainty regarding Italy, with immediate benefits for the spread, which has dropped to below 150 basis points. Until a few weeks ago, the differential was stable above 200 and could have risen further over coming weeks in the event of new elections. Markets do not like uncertainty at all, while stability is welcomed, particularly if, as in this case, the new Italian coalition government promises greater dialogue with Europe.

“The scenario which has formed in Italy supports the banking sector, with small and medium institutions benefiting most from a reduction in the spread. In fact, the increase in prices of BTPs held by these banks allows an increase in the capital buffer, distancing them from the risk of increases, which are particularly damaging for smaller institutions with less equity”, underlines Massimo Trabattoni, Head of Italian Equity. This phenomenon has already reflected positively in the market prices of these banks and may continue for another few weeks, particularly if BTP yields continue to drop.

Nevertheless, this remains a temporary support, with other factors working against the banking sector. Despite the latest round of support from Draghi, minimal and negative rates reduce brokerage margins in a slowing economy. In light of these considerations, Mr Trabattoni prefers to select well-managed and efficient banks, also giving due consideration to the liquidity of securities on the market. “The latter is not the most important stock-selection parameter overall, but in the current environment, with market investment flows less sizeable that in the past, it takes on greater importance”, states Mr Trabattoni. It is no coincidence that risk-management is particularly valuable during this phase, allowing identification of stocks that may suffer during a significant investment sell-off.

“We are looking for the right mix between highly liquid securities with solid fundamentals and business stability, and securities with marked growth potential, perhaps due to international expansion, yet which have relatively insignificant trading activity. These latter securities are often a more genuine representation of the Italian industrial fabric, but must be added to the portfolio at appropriate percentages. Excessive weightings must be avoided to remove the risk of penalisation in case of a significant drop in the markets and consequent increased demand for sale of fund stakes. At the same time, however, they must represent a significant enough portion of the overall portfolio in order to contribute to a tangible extra yield in the medium-long term”.

But can the Italian stock exchange outperform the euro zone average in coming months? “This is unlikely, as a good portion of Italian industry is strongly tied to Germany, whose economy is currently experiencing difficulties. Alignment with performance of European listings is therefore likely”, explains Mr Trabattoni, who believes that it is still possible to find value in individual stock market sectors.

In his expert opinion, for example, utilities and defensive stocks, despite current prices at historic peaks, are still attractive. “Orphan” investors of BTPs and private and bank bonds, with zero or negative yields, will continue to focus on stocks in regulated public utility company and consumer staples sectors that guarantee strong dividends and organic growth even during an economic slowdown. The same applies to healthcare, where various national enterprises can be picked with expected growth rates in double figures for the coming years.

In the luxury sector, which is benefiting at a global level from a growing pool of affluent consumers in emerging countries, it is necessary to be selective to identify well-managed companies with international potential. Looking at cyclicals, i.e. industrials and the automotive sector, it is better to wait for coming quarters to see which companies are able to face the challenges of a slowing economy.

Interview with Massimo Trabattoni, Head of Italian Equity.