European Bonds' Populism Lull Proves Short as Austria Vote Looms

(Bloomberg) -- Bond traders may have breathed a sigh of relief following the French election but the specter of far-right populism is returning sooner than they might have expected.

Austrian bonds have lagged other core government securities this week following news that the nation was unexpectedly headed for early elections. The vote, slated for Oct. 15, was called after conservative People’s Party effectively abandoned the government coalition on Friday, potentially clearing a path for the far-right Freedom Party to gain power.

“The biggest fear of any investor for the euro zone is that a euroskeptic party could actually be part of the government,” said Kim Liu, a fixed income strategist at ABN Amro Bank NV. “If it’s a very narrow, neck-and-neck race then I would expect a lot more volatility.”

European Bonds' Populism Lull Proves Short as Austria Vote Looms

Market favorable election results in France and the Netherlands allayed fears that 2017 would mark a continuation of populist upsets from 2016, where Donald Trump’s Presidential victory and the U.K.’s Brexit referendum surprised investors. Austria narrowly avoided a political upheaval of its own last year when Alexander Van der Bellen of the Green Party narrowly triumphed over the FP’s Norbert Hofer in Presidential elections.

“The fact that populists are doing well in Europe, but not well enough to get in, still makes reforms and euro-zone cohesion difficult,” said Lyn Graham-Taylor, a rates strategist at Rabobank International in London. “It’s difficult to see how we ever get out of crisis mode in the euro zone.”

Widening Spread

Austrian 10-year bond yields have climbed three basis points this week, while Germany’s have increased by one basis point and France’s by two.

Following Emmanuel Macron’s victory in France earlier this month, investors had seen Italian elections due in early 2018, featuring the anti-establishment Five Star Movement, as the next major political risk in Europe. Like Five Star, the FP currently leads in the polls, with its support of around 30 percent likely enough to provide it with the first shot of forming a government, according to Liu.

“A reaction like that prompted by the rise of the populist right-wing in France seems unlikely,” DZ Bank AG analysts including Christian Lenk wrote in a note. Even so, a coalition that contains the Freedom Party will “feed renewed discussions about the rise of right-wing populists in core European countries.”