the reflation trade<u+00a0>has boosted banks around the world. unless, that is, they are italian. the sector has a list of problems keeping investors at bay, including large inventories of nonperforming loans and looming political risk from a coming referendum. on the positive side, investors have been so spooked by the referendum that the political risk may already be priced into the sector. italy<u+2019>s banks continued to decline monday, with the ftse italia all-share banks index dropping 3.85% against a 1.8% fall on the stoxx europe 600 banking index. so far this year, italian banks have underperformed their european peers by 40%. the sector is up nearly 10% since its post-brexit lows in early july, when banks around the world tumbled after britain voted to leave the european union. since then, banks have been boosted by donald trump <u+2019>s victory in the u.s. election. investors anticipate higher inflation and interest-rate increases, which are positive for banks<u+2019> lending business, amid expectations that mr. trump will dial down some regulation in the sector. since july, japanese and european bank shares are up around 25%. u.s. bank shares, meanwhile, have risen about a third, with a big slice of that recovery coming after the nov. 8 presidential election. sunday<u+2019>s referendum in italy seemingly has little to do with the banking sector. prime minister matteo renzi aims to overhaul the upper house of the country<u+2019>s parliament, giving it less control over some policy areas and removing its ability to bring down governments. but mr. renzi has said that he will resign if he loses. some analysts suggest that mr. renzi<u+2019>s departure could open the door for the five star movement, a populist party that could stop a government- led attempt to recapitalize the beleaguered banking sector. if investors believe the government will step back from the plan and shares fall, recapitalization becomes even harder as banks have been issuing equity to raise cash. <u+201c>italy<u+2019>s banks are at a critical stage in trying to rebuild their finances and, if renzi loses the referendum and quits, then those efforts are going to be in deep trouble,<u+201d> said laurent frings, head of credit research at aberdeen asset management, in a recent research note. italian banks have<u+00a0>high levels of nonperforming debt, with around 10 times as many loans going unpaid as in the u.s. the government has led efforts to recapitalize the sector, helping to set up a rescue fund which can buy shares issued by troubled banks as well as riskier parts of their loan books. still, unlike other electoral upsets this year<u+2014>brexit and mr. trump<u+2019>s victory<u+2014>the risks to italian banks may already be reflected in their share prices, because most analysts expect that the italian electorate will reject the constitutional-overhaul plan. <u+201c>such an outcome will clearly not come as a surprise to the markets, given that all the polls are pointing to it,<u+201d> said j.p. morgan chase & co.<u+2019>s global equity strategists in a weekly research note. goldman sachs group inc. believes that the political risk to italian banks is priced in. a <u+201c>no<u+201d> vote in the referendum may also not automatically spell the end of the government<u+2019>s part in the recapitalization. goldman sachs predicts a 35% chance that mr. renzi remains in place as a result of such a vote but a 45% chance that a caretaker government is appointed and continues with the recapitalization plans. analysts have been wrong- footed by political events throughout this year, and if italian banks do sell off sharply following sunday<u+2019>s vote, that could make their<u+00a0>recapitalization efforts<u+00a0>an even more painful struggle.
bank-stock rally bypasses italy  - wsj
mike bird