Mamma Mia! Italy's Upcoming Referendum Has The Potential To Tear Apart The Euro And Investors Need To Hedge With Gold

by: Hebba Investments


- The upcoming Italian referendum has been flying a bit under the radar but with a 'No' vote it could send the Euro into crisis.

- Very similarly to 'Brexit' the polls are showing an almost a dead-even split with the 'No' side slightly ahead 51% to 49%.

- This is another potentially game-changing event for the political and financial system coming in the next few months and the best hedge here is gold.

 
As gold investors we have to keep our antennae highly tuned to all sorts of financial and geopolitical events that could threaten the stability of markets. Of course one of these upcoming events are the US elections, which we think is already a game-changer for the current deflationary-biased narrative, but another one which is getting far less press is the upcoming Italian referendum. We already know the significance that the British referendum had on the gold markets - that was the last time gold was under $1300 per ounce. 
 
In our opinion, the Italian referendum has the potential to be much more disruptive for the geopolitical environment and have more consequences than "Brexit". But very few people seem to be covering it or care - not dissimilar to what happened with Brexit.
 
We will get into our thoughts on it but let us first give a brief overview on the referendum.
 
Italy's Upcoming Referéndum
 
Nick Andrews and Stefano Capacci do an excellent job giving a detailed summary of what's at stake here (which we highly encourage investors to read) but in a quick summary this upcoming referendum is an attempt by Italian Prime Minister Matteo Renzi to restructure Italy's legislative process to help streamline much needed reform. As they state in their aforementioned piece:
 
Now, in a bid to secure a popular mandate for his restructuring program, Renzi has bet his premiership on a referendum over badly-needed constitutional reforms. It is a high stakes gamble. If Renzi wins the vote, which is due in either October or November, his proposed measures will streamline Italy's legislative process, breaking the parliamentary gridlock which has crippled successive governments, and opening the way to far-reaching economic reforms. If he loses, Renzi has promised to step down - a pledge that has turned the referendum into a popular vote of confidence in the unelected prime minister, his Europhile policies, and by extension Italy's membership of the eurozone itself. As a result, a "No" vote in October will not just precipitate the fall of Renzi's government; it could throw Italy's long term membership of the eurozone into doubt, plunging the single currency area once again into crisis
Essentially this referendum is about Renzi being able to actually implement significant changes to the Italian system to help turnaround Italy's economy which has been weak and moribund for years.
 
However, powerful forces are arrayed against Renzi, and a "Yes" vote is far from assured. The proposed reforms have attracted opposition not only from establishment voices who benefit from the current arrangements, but also constitutional lawyers and the growing anti-EU "5-Star Movement", which argue that it is too low of a threshold for the largest changes to Italy since the foundation of the current republic in 1946.
 
Current polls are showing 'Yes' and 'No' running neck and neck - very similar to what we saw with "Brexit".
 
 
 
Referendum Consequences
 
Much like the uncertainty on who will win this vote, there's much uncertainty on what the consequences of a 'No' vote would be - and that primarily depends on what Renzi will do after the vote.
 
Previously Renzi had stated that if the referendum ended in a 'No' vote, he would step down as PM in a move that would mimic British PM David Cameron's resignation following the EU referendum in June. However, in recent weeks Renzi has started to climb down on his promise a little. Last week, for example, he told Italian media that irrespective of the referendum outcome there will be no early elections in 2017. No early election suggests that Renzi's government may try and stay in power even if it loses the referendum, likely taking the sting out of the referendum result somewhat.
 
In the case of a 'No' vote and if Mr. Renzi doesn't step down, there may be little in the way of immediate consequences - which is the view of Citi:
Nothing would change in Italy's institutional setting, and the constitutional reform would be scrapped. The ensuing complication of a Senate regulated by a proportional representation electoral system and a Lower House regulated by an empowered majority system would inevitably have to be addressed to avoid high risks of hung parliaments before 2018. This makes the chances of early elections in 2017 pretty low, in our view, even in the case the current government falls.

While the logic is there we think that consequences may be a bit more significant. Not only would it energize the opposition as they would have popular validation of their lack of confidence in the current government, it may also hit Italian bonds and banks hard as it would mean that there would be no realistic path to reform. That's not good for a financial system that has already been showing signs of stress.
 
With an energized opposition that is primarily anti-Euro and a lack of any meaningful way to reform Italy's stagnant economy, we think it would only be a matter of time before we see a serious financial crisis in Italy and possibly a true break from the Euro. If that happens, then the Euro as we know it is doomed - and that is obviously something that would be good for gold.
 
Thus we take the opposite view of Citi analysts as a 'No' vote would be the start of the end for Italy's Euro membership. Renzi choosing to stay (rather than resign) would simply draw out the process but it wouldn't reverse the trend. Make no mistake - this is a big deal if the population votes 'No'.
 
In fact, we think this would be a much bigger deal than Brexit (especially if it leads to an immediate resignation of Renzi) as Brexit, despite its significance, was ultimately a country that the EU could do without and that didn't even use the Euro as its national currency. Italy is much more significant for the EU and the Euro than the UK ever could be - there would be major questions about the viability of the Euro if Italy leaves as the precedent of leaving would be established and a certainly messy conversion back to the Lira would ensue.

Conclusion for Investors
 
The Italian referendum to be held in late November or early December has the potential to have much bigger consequences than the 'Brexit' vote by the UK - which, to put it mildly, had widespread consequences. A 'Yes' vote would take quite a bit of risk off the table, but a 'No' vote could potentially spiral markets out of control as it would create some very uncomfortable questions about the EU and the Euro.
 
Investors need to pay extremely close attention to the polls as we move closer to the actual referendum, and based on the latest poll published by the newspaper La Stampa on Sept. 4 credited the 'No' vote with 51 percent, against 49 percent in favor. That should be quite a bit unnerving for investors seeking stable markets as it seems the 'No' side is gaining momentum.
 
Of course risks that involve disruptions to the wider financial system are bad for most markets - except of course precious metals. In this case, questions about the viability of the Euro and an exit of a cornerstone of the EU Project would certainly send at least some money into gold.
 
Throw in US elections, the surge in anti-Euro party strength, and potential policy mistakes by the Federal Reserve as they try to raise interest rates into a weakening global economy and you have all the makings for a very volatile end-of-year for financial markets. This is simply another MAJOR risk causing us to change our short-term view on gold as we get closer to all of these potentially derailing events.
 
Thus we feel that despite the large speculative long positions in gold its certainly the time to re-establish a few of our previously sold speculative gold positions in the ETFs such as the SPDR Gold Trust ETF (NYSEARCA:GLD), ETFS Physical Swiss Gold Trust ETF (NYSEARCA:SGOL), iShares Silver Trust (NYSEARCA:SLV). We aren't going to buy all of the positions yet because we expect a further drop as we get closer to the Fed's September meeting, but we certainly see many good reasons why gold has some significant potential short-term to be a high-quality performing asset as volatility returns to markets.

Italy's referendum is one that is a bit under the radar right now but it will certainly start taking center stage if the 'No' vote continues to grow and for an issue that has much more severe consequences than 'Brexit', it's simply not getting the attention it deserves.

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