Rome Is Burning - Again

Summary

• On Friday, Italian assets suffered another meltdown.
• Italian banks plunged the most since Brexit with multiple names halted for volatility.
• In bond land, BTPs were similarly under siege.
• It's possible this will be seen in retrospect as a buying opportunity, but whatever the case, Italy proved again why it's a mainstay on everyone's top worries list.
• Here's the full breakdown with the usual visual buffet.

On Tuesday, May 29, the Italian bond market suffered a dramatic meltdown.

Two days previous (so, on Sunday, May 27) the Five Star-League coalition's effort to form a government behind then premier-designate Giuseppe Conte collapsed, effectively leaving the country's political future up for grabs. Long story short, President Mattarella wasn't enamored with the idea of euro-skeptic Paolo Savona being finance minister.

That raised the specter of new elections.

Initially, the euro (FXE) responded favorably as investors were apparently prepared to accept the thesis that new elections were preferable (from a market perspective) to a populist government. But things went off the rails when investors digested comments from League's Matteo Salvini, who took to Facebook (as he's wont to do) to accuse Mattarella of subjugating the interests of Italians to the interests of the E.U. He also suggested he might try and form a populist government anyway with Savona as FinMin.

I documented that episode extensively here in a series of posts, the most popular of which was called "Rome Is Burning".

Since then, the situation in Italy has stabilized, but the tension between the populist government and Brussels remains palpable. That tension is readily apparent in Italian bonds. 10-year yields have never come close to retracing the blowout that accompanied the May 29 turmoil and the spread between 10Y Italian yields and their safe haven German counterparts remains stuck above 200bps.

Going into September, one of the key risks revolved around the intersection of ECB tapering and the unveiling of Italy's budget targets. Long story short, the worry was that Salvini and Five Star's Luigi Di Maio would override Finance Minister Giovanni Tria, who has been at pains to reassure the market that the deficit target for 2019 would betray some semblance of respect for E.U. budget rules and fiscal discipline more generally.

Analyst’s Disclosure:I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.