Market Overview

Italian Bond Yields Drop, Fail to Sell Like Hotcakes


Despite Spain's success in selling more bonds than expected, Italy's three-year notes have failed to sell as well.

Friday's sale of Italian debt was met with lackluster demand, although the country still succeeded in selling as much as it had planned--€4.75 billion, or a little over $6.1 billion.

Italian three-year notes, which are used as a benchmark for the Mediterranean nation's bond market, sold at an average rate of 4.83%. Two weeks ago, Italian bonds sold nearly a percent higher at a yield of 5.62%. The drop in yield makes it the lowest level since September.

Bid-to-cover ratios fell to near 1.22. In the last sale before the new year, that ratio was 1.36.

Some analysts are seeing a sort of "feedback loop," in which Spain's positive results yesterday are feeding confidence in Italian debt, thus lowering yields.

The news has helped bolster European markets and bring some much needed confidence to the Euro zone, despite concerns that weak retail demand would slow an European recovery. The markets were also spooked by news that Tesco (UK: TSCO) has seen lower demand, causing the stock to plummet 16% in trading. Other major British and European retailers followed suit, causing the FTSE 100 to drop in early morning trading. However, Italy's good performance has helped that index to recover slightly, while European stocks are largely up on the news. The Euro rose to around 1.285. The FTSE MIB was up over a hundred points in intraday trading and the QSG Italy Index was up over 2%.

It is difficult to imagine how the news is going to affect the U.S. markets, which will be driven by other domestic concerns, but the drop in bond yields might be seen as a good sign by investors that European debt is becoming a less risky option as austerity measures continue to rebalance the budgets of the PIIGS economies (Portugal, Ireland, Italy, Greece, Spain). The fact that bond markets are becoming a safer haven will help U.S. investment banks to trade more actively and thus improve their margins. Meanwhile, now that the threat of a PIIGS default is becoming more history than anxiety, investors might see companies more interested in investing in the Mediterranean economies and Ireland.

Actionable items for the market opening:

Traders who believe that Italy's bond market will positively affect the U.S. market should consider these trades:
  • Buy shares in individual Italian companies such as Telecom Italia (BIT: TIT)
  • Invest in an Italy wide ETF such as the iShares MSCI Italy index (NYSEARCA: EWI)
  • For a more diversified approach, investors could invest in Europe more broadly with a Europe-wide ETF such as the Dow Jones Euro STOXX 50 ETF (NYSEARCA: FEZ) or the BLDRS Europe 100 ADR Index ETF (NASDAQ: ADRU).

Traders who believe that Italy's bond market's good news is unimpressive can consider the following trades:

  • Short Italian stocks or the ETFs mentioned above, or invest in an ETF that shorts the market for you, such as ProShares UltraShort MSCI Europe Index Fund (NYSE: EPV)
  • Wait and see how the American markets respond and invest in inflation hedges such as gold
  • Anticipate a drop in the Euro and an investor rush to safer havens by investing in the U.S. dollar or Treasury notes

Related Articles (FEZ + ADRU)

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Posted-In: News Bonds Global Markets