According to the New York Times, Italian credit default swap
rates have more than tripled in cost since the summer. As of
Monday, the annual cost of ensuring a $10 million five-year Italian
debt bond was already a cool $511,000.
The PowerShares DB Italian Treasury Bond Futures ETN
(NYSEArca:ITLY) has fallen 6.16 percent since Monday. If you held
the PowerShares DB 3X Italian Treasury Bond Futures ETN
(NYSEArca:ITLT), youâve lost a whopping 18.09 percent this
By now, the 7 percent level on a 10-year bond has become
foreboding in the eurozone, simply because interest rates on such
loans become too costly for a cash-strapped government to properly
repay. Greece, Ireland and Portugal breached that threshold early
in Europeâs sovereign debt crisis, and one after another sought
bailouts from the International Monetary Fund and others. Will
Italy follow in their footsteps?
Past As Prologue?
Take Greece. As yields on Greek 10-year notes rose, the MSCI
Greece Index tanked. You can see that sovereign debt yields started
rising right around April 2010, or the time of the initial
It looks like, when the spread between the bond yield and total
return becomes too wideâinvestor confidence is shot.
In late 2010, when talk of default began swirling in Portugal,
the spreads between bond yields and total returns on 10-year
Portuguese debt behaved much as they had in Greece.
The question now is whether this will also happen in Italy. For
now, its spreads have not moved to the same ominous levels as they
have in Greece and Portugal.
Maybe it is because Italy is wealthier.
Also, while government debt and spending have been high, both
have remained relatively stable since Italy joined the eurozone in
So, whereâs the fire?
To begin, total national debt as a proportion of GDP is massive,
and second only to Greece in the eurozone. That says something,
especially considering the fact that Italy is the fourth-largest
economy in Europe and the eight-largest in the world.
Moreover, Italyâs economic growth has been sluggish in the
past decade, averaging .28 percent per annum. In contrast, France
has grown more than four times as much, at an annual average of
1.14 percent. (France is an apt comparison in part because both
have populations of approximately 60 million.)
Itâs unlikely that Italyâs growth will explode overnight.
According to the Bank for International Settlements, the average
company in Italy has less liquidity than its international
counterparts. Furthermore, the Italian economy is plagued by a low
birth rate and high life expectancyâa combination that cripples
future growth, caps labor supply and fuels sky-high social welfare
Defending The Core
Since Italy is culturally and economically a core EU member, it
is likely that German and French officials will bend over backward
to save it. Although Italyâs economy is too big for the EU to
bail it out by itself, European officials have said theyâre not
above accepting aid from China.
Due to the interconnectedness of the global economy, a default
in Italy would reverberate horrifically throughout the world. To
those of you who thought that Greeceâs dictating of stock prices
in the last few weeks was powerfulâthat was just a tease compared
with what could happen with Italy.
It seems to me that the real question isnât whether the
government will seek a bailoutâItaly will ask for it and receive
it. Instead, it is a question of what Italian officials will do
the loans that will determine how fast or slow the nation will
climb out of the hole it dug itself into.
In the late-1990s, the Asian financial crisis drove investors
West, but eventually the Asia-Pacific economy recovered. Although a
final solution to Europeâs sovereign debt crisis seems far away,
perhaps now is the time to buy cheap and hold.
For ETF investors, about a dozen funds that provide equity
exposure to Europe are available, and theyâre likely to be
heavily discounted while this Italian drama plays out.
Among todayâs most popular options are the Vanguard European
Fund (NYSEArca:VGK) and the iShares S'P Europe 350
For the more risk-averse, owning German equities using iShares
MSCI Germany (NYSEArca:EWG) and Market Vectors Germany Small-Cap
(NYSEArca:GERJ) might make sense.
Thereâs also a low-cost currency-market play, which is likely
to remain prospective as long as the fates of Greece, Italy and
other eurozone countries remain in a limbo.
The CurrencyShares Euro Fund (NYSEArca:FXE) could be used
tactically as a shorter-term trading vehicle, or strategically. To
buy-and-hold investors:Make sure you believe in the euro and its
long-term future before committing to FXE for the long haul.
Don't forget to check IndexUniverse.com's ETF Data
2011 IndexUniverse LLC
. All Rights Reserved.