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Welcome to Risk-Off Tuesday as Italy Rattles Markets

Courtesy of Pam Martens

Sergio Mattarella, President of Italy

Sergio Mattarella, President of Italy

U.S. investors have returned this morning from a 3-day Memorial Day break for parades and barbecues to find that turmoil in European stock markets may serve up losses to U.S. portfolios. At 7:18 a.m. this morning, futures on the Dow Jones Industrial Average were projecting a loss of 191 points at the open of trading in the U.S.

The turmoil is rooted in a failed coalition government in Italy over the weekend with the prospect for Euro-sceptics gaining more power in a new Italian election in the fall. Italy’s finances are in no condition for a flailing government. It has over 2.3 trillion Euros in outstanding debt.

Last Friday the credit ratings agency, Moody’s, placed Italy’s sovereign debt rating under review for a possible downgrade. The rating is already weak at Baa2, just two rungs above junk bond status. Moody’s announcement of a review came as the coalition government, made up of the populist 5-Star Movement and the far-right League party had announced plans to cut taxes, boost spending and sidetrack a key pension reform measure.

The weekend turmoil has already led to rising debt costs for Italy. The yield on its two-year debt rose to more than 2 percent, up more than 1.5 percentage points since Monday. The yield on Italy’s 10-year debt rose to as high as 3.38 percent. It’s trading this morning to yield 2.89 percent – a whopping 123 basis point increase in just the past month.

Mounting concerns on Italian debt and the unstable government has spilled over into the credit default swap (CDS) market – the derivatives that played a pivotal role in the 2008 financial crisis. The spread on Italy’s five-year CDS traded at around 90 basis points in April and now resides in the 200-basis point range.


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