Italian Bond Yields Skyrocket

Italian government 3-year bond yields reached euro-era highs during the country's latest bond auction. While the Italian government was successful in raising 7.5 billion euros ($10 billion) during the auction, the steep interest rates that it was forced to pay are troubling. The interest rate that the Italian government must pay investors in order for them to loan the troubled country money was 8%, a level which is probably unsustainable and is almost 3% higher than the last 3-year bond auction that was held on October 28. The rising yields on Italian debt will put more pressure on European leaders to come up with a comprehensive plan that addresses the many issues facing troubled eurozone countries like Italy, Greece and Spain. Failure to do so could lead to ever higher yields that force the Italian government to default on its debts and possibly exit the euro so that it can take advantage of managing its own monetary policy. The European Union has struggled to keep Greece from defaulting, so the much larger Italian economy could lead the eurozone into financial catastrophe if Italy cannot not afford to pay ever higher bond yields and defaults on its debt. Just yesterday, the International Monetary Fund (IMF) was denying a rumor reported in an Italian newspaper that Italy and the IMF were in discussions over a possible 600 billion euro rescue package. ACTION ITEMS:

Bullish:
Traders who believe that Italy will get through its current predicament without defaulting might want to consider the following trade:

• If Italy can manage to avoid a default and its economy gets back on track, the iShares MSCI Italy Index Fund EWI will have significant upside potential.

Bearish:
Traders who believe that rising Italian bond yields are a sign of worse to come for Italy may consider alternate positions:

• Shorting Italian stocks like ENI E and Luxottica Group LUX could prove profitable if Italy is seen to be headed down the road to default.

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