Canadian Investment Review

Political Risks to Watch For

Written by Caroline Cakebread on Thursday, September 8th, 2016 at 9:29 am

1135221_hi-jacking_hotspotWhere are the opportunities and risks in Europe? And how can investors identify them? Ken Orchard, portfolio manager, fixed income division, with T. Rowe Price, presented his views on the risks in Europe and the hot spots that he sees rising there now.

Orchard cut straight to a topic that was top of mind for investors a few months ago — the possibility (now the reality) that Britain might exit the eurozone. “There has been an assumption that a large ‘no’ section will eventually come out and go for the known quantity, which is to stay in the EU,” he said. But that has changed somewhat as concerns over security and immigration heat up in England and fuel the desire of a greater segment of the population to leave the EU.

The big risks to look at here stem from London’s role as a financial centre and U.K.’s role as a major trading partner for Europe. Moreover, if Britain is able to make an easy exit from Europe, it could lead other countries to follow and cause the eurozone to unwind. Collateral damage could also include countries like Ireland, which could be caught in the middle.

If Britain is able to make an easy exit from Europe, it could lead other countries to follow and cause the eurozone to unwind.

Another hot spot in Europe is Spain — as the Catalonian Independence Movement gathers steam. Orchard doesn’t believe that Catalonians want to leave — they just want a better deal from Spain. “But it’s another reason to be cautious because Spain has other regions with nascent independence movements,” he explained. Catalonia could set that off.

Greece is also set to “simmer and bubble” over the next few years, even though the country has some “better cards to play” as it negotiates its deal with Europe. Its role in the migration crisis is a big part of that — and the more left-wing radical members of the governing party have also left, leaving a more pragmatic group to make decisions, Orchard said.

Good shocks 

But not all shocks are bad and there are forces that are shaping some positive stories on the geopolitical landscape. Cyprus, for example, has been divided since 1973, and, noted Orchard, it looks like reunification is a real possibility.

Italy is also set to undertake electoral reforms that will add much-needed political stability.

The key going forward is not to focus on the hot spot itself but to keep an eye on the potential for collateral damage — for example, how will Ireland fare in a Brexit scenario? And what about U.K. banks? “If you have the research and fortitude to understand the situation there can be great entry points,” Orchard said. He gave the example of spiking yields on bonds from Italy and Romania at the time of the Greek Referendum — a good opportunity for investors who could see through the panic.

Ultimately, concluded Orchard, “it’s important when thinking about geopolitics to think about where else the damage could come.”

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