What the heck happened?
Berlusconi announced yesterday that he was going to quit, and this was supposed to be a big step for Europe in that A) Investors were supposed to grow more confident in Italy and B) The ECB was supposed to be more accommodating to Italian bond purchases.
A lot of folks will talk about the margin hike on Italian bonds at LCH.clearnet, forcing traders to either liquidate positions or raise more cash to maintain positions.
But there’s something wrong with this story.
The notice was dated yesterday, and yet for the first hour or so, nobody much seemed to mind.
Here’s an intraday chart of Italian 10-year yields just in case you’re not convinced.
So what happened?
We talked to our friend Lorcan Roche Kelly an analyst in Ireland with Trend Macro, who knows the European debt market better than anyone else. Basically he described it as a case of the ECB refusing to blink when everyone expected them to.
Everyone’s been getting used to the ECB doing bond buying, and though they may have bought, like 200 million EUR of Italian BTPs (bonds) today, they basically stunned everyone, staying out of the market. This might have been a message to Silvio, telling him to get out.
It’s also a way for Mario Draghi, who has been vocal in his belief that fiscal measures heretofore haven’t been enough, to put some muscle behind his words. Bondholders across Europe have now been put on notice.
So what happens next in Italy? The entire market is still waiting for the ECB to blink, and do the forceful yield suppression everyone expects. If Italy can make it through the next few days, Monday could be huge, as 50%+ chance Berlusconi is out by then, with him getting replaced by the well-respected Mario Monti. if he’s in by Monday, then the ECB might do some serious monetization. Maybe.
If not, we could be looking at 10%+ yields.
In the meantime, with such gigantic swings in the debt of one of the world’s biggest economies, it’s hard to imagine US markets getting relaxed.
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