The
economic data released over the last week confirmed that the Italian economy is
in a dire recession:
1) The Istat business confidence index
was at 87.1 in July – only slightly above the 3 year low at 86.5 posted in May.
The index signaled that the industrial production may contract by 10% y/y in
Q3;
1) The Q2’s GDP contracted by 0.7% q/q – slightly better than
market expectations at -0.8% q/q. It was the fourth consecutive quarterly
decline: -0.8% q/q in Q1 ’12, -0.7% q/q in Q4 ’11 and -0.2% q/q in Q3 ’11. The
year over year change fell from -1.4% in Q1 ’12 to -2.5% in Q2 ’12.
The leading
indicators released over the last few weeks signaled that a recovery of the
Italian economy is not imminent:
2) The Istat consumer confidence index
signaled that the consumer spending will continue to remain weak in H2 ’12 for
the negative outlook of the labor market. According to the latest Eurostat’s data,
the Italian unemployment rate rose to a multiyear high of 10.8% in June.
However,
despite the negative economic scenario, the Italian equity market strongly
rebounded over the last few weeks: from the year-low at 12295 posted on July 25th,
the FTSEMIB jumped by almost 20%.
The main
reason behind the rebound of the equity markets were the expectations that the
ECB may intervene in the secondary market to lower the government bond yields
in Spain and Italy. Indeed, the equity market rally started after the ECBpresident Mario Draghi said on July 26th at the Global Investment Conference in London that the ECB “will do whatever it
takes to preserve the euro” and continued after the ECB announced at the end of
the last week monetary policy meeting that it will start buying the
Spanish and Italian government bonds on the secondary markets if the two countries will ask for the
intervention of the EFSF/ESM.
Following
the ECB announcement, the Italian government bond yields declined: the 2 year
yield fell from 5% to 3.08% and the 10 year yields fell from 6.6% to 5.9%.
A steep
decline of the government bond yields in Italy will have a strong impact on the
Italian economy as:
1) It will lower the interest expenses
on the huge public debt (close to 120% of GDP);
2) It will improve the outlook for the
banking sector, which is highly exposed on the Government bonds;
3) It will lower the cost of financing
for the non-financial corporations.
For this
reason, a further decline of the long-term Government Bond yield – i.e. a
decline of 10 year BTP yield below 5.5% - is crucial for buying the Italian
equity market in a medium term perspective. Since 1994 a simple trading
strategy of buying the Italian equity markets (we used the Comit index as a
benchmark) at the end of the month when the 10 year BTP yield was below the
previous year yield and exiting from the market in the opposite case gained a
121% performance versus the -5% of a buy and hold strategy.
Another
positive sign should be a rebounded of the business confidence index. In the
past, a bottom of the business confidence index anticipated not only an
improvement of the economic activity but also the start of an upward trend of
the equity market. The next Istat business confidence index will be released on
August 30th.
