Surging Italian bond yields rattle investors

Another
surge in Italian bond yields to euro-era records has spooked investors,
swiftly counteracting the welcome afforded some benign Chinese
inflation data.

The euro has cracked and is down 1.6 per cent to $1.3606, while the
FTSE Eurofirst 300 has reversed early gains to shed 1.8 per cent as the
banking sub-index drops 4 per cent.

Italy’s stockmarket is getting crushed, the FTSE MIB index losing 3.5 per cent. Wall Street’s S&P 500 has greeted the opening bell with a tumble of 2.5 per cent.

Money is moving into perceived havens such as the benchmark Treasury, the yield for which is down 11 basis points to 1.97 per cent.

Many traders had initially cheered Italian prime minister Silvio Berlusconi’s pledge to resign, reasoning it makes budgetary reforms more likely and reduces the risk of the European debt crisis spreading.

Meanwhile, news that Chinese inflation fell to a five-month low, raised hopes that Beijing has more room for monetary policy easing to support growth in the world’s second-biggest economy amid the global slowdown.

But it is clear from the blow out in the Italian sovereign debt market that investors harbour severe doubts that Rome has the political wherewithal to successfully implement austerity measures and put its finances on a secure footing.

Adding to the angst is the decision on Wednesday by LCH.Clearnet, the clearing house, to raise the initial margin required to trade Italian bonds. Such a move makes it more expensive to hold a position and may encourage investors to quit trades, putting further downward pressure on prices and forcing yields higher.

Italian
10-year yields hit a fresh record of 7.48 per cent shortly after the
European open. They are currently up 49 basis points at 7.26. Crucially,
the yield curve has inverted as 5-years trade at 7.49 per cent, a
condition that speaks of real investor fears about a potential default.

The impact of the turmoil in Italian debt has rippled across asset
classes. The FTSE All-World equity index is down 1.7 per cent, despite
an upbeat Asian session, and early strength in commodities has been
shattered.

Copper is down 1.2 per cent to $3.49 a pound and Brent crude lower by
1.8 per cent to $112.97 a barrel. Gold is struggling to benefit much
from the funk, gaining just 0.3 per cent to $1,790 an ounce.

Traditional bolt-holes are seeing demand. The dollar index is up 1.3
per cent and Bund yields are down 7bp to 1.73 per cent, near record
lows.

Earlier, Asian exporters and financial shares rose across the region
on (at the time) easing concerns that Europe’s debt woes will dent
banks’ earnings and after the Chinese inflation data calmed fears about
an overly aggressive People’s Bank of China.

The FTSE Asia Pacific index was up 0.7 per cent after Tokyo’s Nikkei
225 and Sydney’s S&P/ASX 200 both advanced 1.2 per cent.

Hong Kong’s Hang Seng index jumped 1.7 per cent, rising above the
20,000 mark for the first time in almost two weeks as Chinese lenders
and commodity producers surged. The inflation slowdown also boosted real estate developers.

In Seoul, leading exporters rallied on the belief that the yen’s
strength would help boost their price competitiveness abroad, as they
compete directly with Japanese rivals in many sectors. Seoul’s Kospi
added 0.2 per cent.