The latest political crisis in Italy roiled the global markets lately, pushed the euro down to a 10-month low and triggered a safe-haven rally. Along with Italy, Spain (for a different reason) is also expecting a snap election soon, spooking investors about the likely instability in the Euro zone and its aftershocks across the global asset classes.
Inside the Politics
Italy is caught up in a political mayhem. A likely new coalition government formed between two populist parties broke down after president Sergio Mattarella, a staunch supporter of the common currency concept, banned the nomination of Eurosceptic Paolo Savona as economy minister, leading the anti-establishment coalition's prime minister-elect to withdraw.
Italy’s current president Mattarella has now appointed Carlo Cottarelli, a pro-austerity economist and a former IMF executive, to head a technocrat government. But the new appointment may not sustain. The anti-establishment Five Star Movement, the anti-immigrant League, and ex-premier Silvio Berlusconi’s Forza Italia party are opposing the appointment. Some parties have an exit plan from the Euro zone.
Against this scenario, a new election is likely in the country on Jul 29. Notably, Italy had an inconclusive election in March and political parties were incapable of constituting a new government (read: Political Woes Grip European Markets: ETFs to Watch).
In addition to Italy, chances of a snap election in Spain have compounded the market risk. The biggest opposition party in Spain, the Socialists, called for a vote of confidence against prime minister Mariano Rajoy on account of an ongoing corruption case.
Bond Market Response
Italy’s sovereign debt mound of €2.3 trillion is the largest in the Eurozone. So, one should have a look at the bond market behavior, as higher default risks are lingering now.
Short-term Italian government bond yields saw their largest single-day spike since 1992 on May 29. The spread between Italian and German 10-year bonds, which is the Euro zone's benchmark, reached the highest level in five years. The spread rose above 300 basis points. Notably, in the peak of the Euro debt crisis in 2011, this spread was 560 bps.
Italian bond yields traded above U.S. Treasury yields for the first time in about a year, per Reuters. The Spanish risk premium was hovering over the 135-140 range on May 29.
Global Market Behavior
The latest Roman impasse seems to be the most acute crisis in the Euro zone since Greece last warned of exiting in 2015. Since Italy is the third-largest economy in the region, this time the threat is much bigger. So, such a turmoil is likely to cast a pall on the global market.
The 10-year U.S. Treasury yield dropped the most since the Brexit vote as Italy crisis boosted safe-haven demand. The S&P 5000-based fund SPDR S&P 500 ETF (SPY - Free Report) lost 1.1% on May 29,SPDR Dow Jones Industrial Average ETF (DIA - Free Report) shed about 1.6%, all world-ETF iShares MSCI ACWI ETF (ACWI - Free Report) dropped about 1.5%, Vanguard FTSE Europe ETF (VGK - Free Report) retreated about 2.8%, iShares MSCI Eurozone ETF (EZU - Free Report) retreated about 3.4%, iShares Asia 50 ETF (AIA - Free Report) dived about 2% and iShares MSCI Emerging Markets ETF (EEM - Free Report) fell more than 2.3%.
How to Profit
Given the upheaval, investors could easily tap the opportunity by going short on global equities if the political tension persists. Below we highlight a few of them.
The best way to profit out of the present Italiancrisis is to invest inProShares UltraShort FTSE Europe EPV (up 5.6% on May 29).
Investors can go against the S&P 500 with ProShares Short S&P500 ETF (SH - Free Report) (up 1.2% on May 29) and Direxion Daily S&P 500 Bear 1X Shares (SPDN - Free Report) (up 1.2% on May 29).
Investors intending to play against the tumbling Dow Jones, may tap ProShares Short Dow 30 (DOG - Free Report) (up 1.6% on May 29), ProShares UltraShort Dow30 DXD) (up 3.2% on May 29) and ProShares UltraPro Short Dow30 (SDOW - Free Report) (up 4.8% on May 29).
ProShares Short MSCI EAFE (EFZ - Free Report) (up 1. 9% on May 29) could be a good way to short stocks from the EAFE region and avoid the spillover effect of the Italy turmoil.
Investors can short emerging markets with Direxion Daily Emerging Markets Bear 3X Shares EDZ (up 6.9% on May 29) and UltraShort MSCI Emerging Markets EEV (up 4.6% on May 29) (read: Top and Flop EM ETFs as Taper Tantrum Completes 5 Years).
As a caveat, investors should note that such products are suitable only for short-term traders as these are normally rebalanced on a daily basis (see: all the Inverse Equity ETFs here).
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