Calm Before the Storm?

Andamento del mercato - 30/05/2018

The Italian political crisis escalated this week sending markets in a turmoil, and pushing the euro below $1.16 for the first time since November 2017. Bond markets were hit hard, particularly European bonds. Stock markets were rocked on Tuesday, with the Dow dropping as much as 400 points.

Fear has gripped the markets since Italy is the 3rd largest EU economy and is heavily indebted. Since the March elections, the country has been unable to form a government and there now lies the possibility of snap elections, posing an existential crisis for the euro.

The main reason snap elections would present further risk for markets is because it will be seen as a “referendum” for the E.U. and the euro since there is a possibility that the far-right League and the anti-euro Five Star  movement are considering joining forces ahead of the new elections.  This comes after Italian President Sergio Mattarella rejected a Euroskeptic candidate for economy minister earlier this week and appointed technocrat Carlo Cottarelli as interim Prime Minister on Monday, asking him to form a cabinet. But this appointment may not last and the only immediate solution may be fresh elections, possibly in July. This was the catalyst for markets taking a dive.

After the knee-jerk reaction flight to safety on Tuesday, the euro/dollar bounced higher on Wednesday, moving further away from the 1.1510 low to rise back above 1.1600, up 0.7% by midday today. The euro also recovered some losses against the Swiss franc, bouncing off 1.1367, its lowest level since August 2017, to reach 1.1530. Euro/yen clawed back most of yesterday’s losses to rise from 125 to 126.80.

Meanwhile, an Italian government debt auction today went smoothly and helped calm the markets. However, overall sentiment on the euro has soured and markets are likely to remain cautious until there is more clarity surrounding the Italian political stalemate.

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