Markets remain highly unprepared for surprising political outcome in Europe in short-term, says ANZ

Markets are pricing in little political risk in Europe this year despite the broadly unexpected outcomes to the UK referendum on the European Union (EU) membership and the United States Presidential election. This may reflect the belief that whilst levels of dissatisfaction with the EU are high and rising, European voters are not ready to leave the EU.

Irrespective of the outcome of the elections, markets appear unprepared for any surprises in the short term. Over the medium term, rising dissatisfaction will be a barrier to deeper EU integration and that is a negative for the euro, ANZ reported in its latest research note.

The forthcoming election cycle in Europe is attracting little attention at present as the market’s focus is very much tuned into the unfolding policy initiatives from US President Donald Trump. Compared to the approach of the UK referendum on EU membership last June, there appears little event anxiety. In part that may reflect the fact that Europe’s election cycle is not directly about referenda on EU membership.

This year, the market seems quite relaxed despite elections in The Netherlands, France and Germany and the rise in support for populist parties in those countries. The clear implication is that although support for Populist Extremist Parties (PEPs) has risen strongly across Europe in recent years, the market does not expect a political outcome that would force a sudden rise in EU uncertainty from the elections in the Netherlands, France or Germany this year.

The real challenge the EU faces is how to embrace and address populist concerns because to ignore them risks potential EU fragmentation in the future.

"As the elections approach, the focus on populism will intensify and perceived political risk may well creep up, pushing volatility higher and the euro lower," the report said.