THE GOOD THE BAD AND THE UGLY.

Italy

When Terence Hill created his mayhem on the screens in a spaghetti western, the intention was to make order out of the reigning chaos and create a little chaos on his own. And that is exactly what we have to think about when we look at the current geopolitical environment that has embroiled the West, courtesy of Italy. A spaghetti western that has to play its part.

The movements have a certain déjà vu affect in that it was only about 5 or so years ago that we had the sunbelt countries of Greece, Spain and Portugal creating mayhem. We now have Italy.

So, the political collapse in Italy is what is driving markets into a risk off mode. The trend in Italy is unlikely to go away because I would expect people there to be angry with Brussels. The Italian people have picked the disruptors to govern and that is unlikely to change when Italy is once again forced to the polls.

Brussels will have to think of a new strategy as it is likely that when the newly elected government wins again that Italy will seek to leave the Euro.

Amongst all this conflagration Trump upped the ante with China over trade and the imposition of tariffs.  So all of a sudden, we have several geopolitical events happening at the same time and that is the ugly part. The moment is definitely risk off!

For the bears in the bond market, this has been painful. German Bunds have halved in yield.  U.S treasuries have retraced some 20 odd basis points since last week and most of that over the last day. When the snapback happens – who knows when – the pullback is likely to be vicious. There is now some talk that Draghi will have to intervene to calm markets.

The Euro zone had been betting that the ECB would be steadily raising rates later in the year. As economic growth slows, and the Italian experience will hasten this result then the markets are pricing just a 30% chance that there may be a 10 bp rise in June 2019.

Italy is the bloc’s third largest economy and any slowing by Italy will profoundly affect growth elsewhere in Europe.  And this is why this is so troubling. The 5-Star League has seen its stock improve with its partner the League jumping to 27.5%, according to SWG polls. Between the two anti-establishment parties they control 57% of the vote.

Bonds rallied, and they rallied hard. U.S. treasury futures recorded one of their highest single day’s volume ever. The 10-year bund was pushed to 0.19% its lowest in over a year. Short term Italian bonds saw their biggest one day jump since 1992. The 2-year is trading at 2.74%.

This mess will take some time to clean up. In the meantime, expect growth to slow due to uncertainty concerns.  This slowing could impact the U.S. at a time when global trade slows. The Trump Administration’s willingness to impose tariffs on China, a failing NAFTA, and various trade spats with their allies will do nothing to aid the global economy.

Recap.

Equities: The S&P 500 fell 1.2% The Dow fell 1.65%. The Stoxx fell 1.4%

Currencies: The Bloomberg Dollar Index rose 0.4% The euro fell 0.8% and the yen rose 0.7%

Bonds: The ten-year closed around at 2.73% . The 2-year closed at 2.335% and the 30-year closed at 2.976%. The ten-year bund closed at 0.265% and the UK gilt closed at 1.21% and the OAT closed at 0.656%.

The U.S. curve closed the day with the following closes 2/10 at 45.8 bp, 2/30 at 65.2 bp and the 10/30 closed at 19.2 bp. The U.S. 5-year closed at 2.60%.

Commodities: WTI rose fell 1.6% and Gold fell rose 0.2%

Bitcoin is trading around $7,484.

Aussie Market Today.

Buy bonds sell equities. That’s the day’s theme unless for some reason geopolitics eases. Probably the market has vented a little too much.  However, these moments often last.

Bonds will play catch up from last night and will look for further information later in the day as Europe opens. This uncertainty is creating a strong risk off approach. When that thinking changes beware because the retracement could be equally savage.

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