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Italian Bonds Tumble, Triggering Goldman “Contagion” Level As Political Crisis Erupts In Spain

When it comes to the latest rout in Italian bonds, which has continued this morning sending the 10Y BTP yield beyond 2.40%, a level above which Morgan Stanley had predicted fresh BTP selling would emerge as a break would leave many bondholders, including domestic lenders with non-carry-adjusted losses…

… there has been just one question: when does the Italian turmoil spread to the rest of Europe?

One answer was presented yesterday by Goldman Sachs which explicitly defined the “worst-case” contagion threshold level, and said to keep a close eye on the BTP-Bund spread and specifically whether it moves beyond 200 bps.

Should spreads convincingly move above 200bp, systemic spill-overs into EMU assets and beyond would likely increase. Italian sovereign risk has stayed for the most part local so far. Indeed, the 10-year German Bund has failed to break below 50bp, and Spanish bonds have increased a meager 10bp from their lows. This is consistent with our long-standing expectation that Italy would not become a systemic event. That said, should BTP 10-year spreads head above 200bp, the spill-over effects onto other EMU sovereigns would likely intensify.

Well, as of this morning, the 200bps Bund-BTP level has been officially breached. So, if Goldman is right, it may be time to start panicking.

Ironically, almost as if on cue, just as the Italy-Germany spread was blowing out, a flashing red Bloomberg headline hit, confirming the market’s worst fears:

  • SPANISH SOCIALISTS REGISTER NO-CONFIDENCE MOTION AGAINST RAJOY.

This confirmed reports overnight that Spain’s biggest opposition party, the PSOE or Socialist Party, was pushing for a no-confidence motion again Spain’s unpopular prime minister. The no-confidence call follows the National Court ruling on Thursday that former Popular Party officials had operated an illegal slush fund, as a result of which nearly 30 people were sentenced to a total of 351 years in prison.

…click on the above link to read the rest of the article…

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